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Case Study: Kinetico

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The Beginning

In 1970, two entrepreneurial engineers, Bill Prior and Jim Kewley, found themselves wrestling with the challenge of designing a better water treatment solution for their nineteenth century northern Ohio homes. The system they eventually arrived at was a novel concept that employed the force of moving water itself to clean and soften water. Their revolutionary twin-tank, non-electric valve quickly became the most sought after solution for complicated water treatment challenges, and the company they founded to manufacture and distribute their products – Kinetico – soon grew to be the market leader in the premium water treatment industry.

Over the next three decades Bill and Jim carefully built not just a profitable business around their growing line of water treatment products, but a large extended Kinetico family, encompassing more than 350 employees working in Newbury, Ohio, and Copenhagen, Denmark, and more than 400 independent, family-owned water treatment specialist companies dedicated exclusively to selling, installing, and supporting Kinetico products around the world.

This sense of being a family was central to Bill Prior’s vision for what his company should be, a touchstone for every action the company took and every decision made. And it became the engine that propelled the business to record growth year-after-year, as the partnership between the company, its employees, and its dealers delivered innovative new products, a passion for customer service, and the highest standards of ethical conduct in the industry.

By every measure Kinetico had achieved more than its two founders had dreamed possible at its founding. However, by 2005 Bill Prior’s thoughts had turned to securing the company’s longer-term future in an era where he might no longer be capable of providing the values-driven leadership that had brought the company to this point. In addition to worrying about how an unexpected turn in his health might throw the company into estate tax-related turmoil, Bill felt that the company now needed new kinds of expertise and management experience to help the business become more consumer marketing oriented, and more capable of supporting its dealers as they expanded into new markets and customer segments. What kind of ownership context could best support the company in its next stage of development, and, most important, how could he be sure to preserve the unique family culture that made up the heart of the company?

 

The Promise

By 2005 Axel Johnson had been in the water business for over forty years, dating back to our purchase of Parkson Corporation in 1962. Parkson’s success in serving a wide range of water and wastewater treatment segments over that time offered us a unique vantage point from which to assess the attractiveness of other niche opportunities in the sector – including residential and commercial water treatment. Upon learning that Bill Prior might be considering a change in ownership of his company, we reached out to him to let him know that we would be honored to discuss our interest in the opportunity.

As it turns out, Bill had already initiated a process to explore the options available to the company, and by the time we made contact investment banking firm William Blair had lined up a slate of potential suitors for Kinetico. However, after learning a bit more about Axel Johnson, Bill graciously invited us to visit Newbury to get better acquainted.

Our meetings in Newbury provided an opportunity for Bill to describe his hopes and dreams for Kinetico, and in particular his concerns and aspirations for the long-term well-being of the extended Kinetico family. In turn, these conversations offered us the opportunity to discuss our own family values and the commitment we have to building businesses for the long term – even when the short term going can sometimes be difficult.

After much research and careful consideration of the alternatives, Bill and the Kinetico team chose to join the Axel Johnson family in 2006, notwithstanding receiving a range of offers from several sizable strategic acquirers and a host of private capital funds. They did so, in no small measure, because they believed in our firm commitment to steward the values and the legacy that Bill and Jim so painstakingly built over Kinetico’s first forty years – and in our promise to see the company through the harder times that would inevitably come, while continuing to invest in Kinetico’s long term future.

 

Delivering on the Promise

In truth, though, none of us anticipated that challenging times would arrive quite so soon. Nor did any of us foresee just how challenging those times would prove to be.

The beginning of 2007 saw housing price declines of more than 35% nationwide, coupled with a comparable collapse in mortgage issuance, and – most significantly for Kinetico – a near-total freeze in new home equity loan issuance. While Kinetico’s business had never been overly sensitive to new housing starts, many consumers used home equity lines to purchase their water treatment systems. Virtually over night unit volume and revenue fell by more than 30%, dealer lead generation stagnated, and cash flow turned negative. And as 2007 came to a close, there was no sign of recovery anywhere in sight.

Our first step was to pay off all of the company’s outstanding bank debt – more than $20 million at the time. However, this was no time to have the company worrying about the anxieties and demands of creditors. Our focus needed to be on first stabilizing, and then rebuilding the business without having to consult any outside parties.

Our second step was to work with the leadership team to take a hard look at the mix of markets we were serving to ensure that every activity we were undertaking was an investment in a sustainable future. This effort led to the conclusion that, while Kinetico’s work in the industrial sector had been an important part of its past, it was no longer central to the course of the company’s future in the commercial and residential sectors. Moreover, the highly cyclical and always custom engineered nature of industrial projects was draining resources and talent away from the dealer business, making it difficult to invest in new product capability for these core family members. So, while a painful decision, we decided to exit the industrial marketplace and instead concentrate on adding the marketing resources and product features required to support our dealers in their efforts to generate leads and ultimately sell more products.

Over the next twenty months, we worked to streamline costs where we could while continuing to invest additional money and resources to strengthen the business, augment dealer positioning, and improve product quality. The road we traveled was not without its pain. Our exit from the industrial business, coupled with our re-focusing on our core customer sets, involved the laying off of over fifty Kinetico family members. But throughout we sought to keep our eyes on the long term, continuing to invest in new product development and in the capabilities that would ensure the company’s survival and future success, even while current cash flow remained negative for almost three years.

This was in stark contrast to the choices made across the rest of the water treatment sector, particularly with regard to those companies owned by private equity funds. These companies saw their staffing slashed, their manufacturing and technical facilities closed, their production outsourced overseas, and their product development eliminated completely. For these companies, there was no concern for the future – just an obligation to bail out the banks that financed their purchase.

 

The Results

By 2010 we began to see the fruits of our labor, as sales began to climb again in both our residential and commercial product lines. As we introduced the industry’s first new products in more than a decade, including a new generation non-electric single tank valves and a revolutionary new home drinking water system, cash flow first stabilized and then turned solidly positive. As we followed these investments with new commitments to supporting our dealer family and branching out into new channels around the world, Kinetico has subsequently grown at more than twice the rate of industry, culminating with record revenue, earnings and cash generation in both 2013 and 2014. Equally important, the company now employs more people across its operating locations than at any time in its history, bringing a whole new generation of family members into the business.

 

Where We Go From Here

As Kinetico continues to work every day to be the world’s premier provider of water treatment solutions, we maintain our commitment to constantly deepening our understanding of the challenges faced by our customers, both residential and commercial. We maintain our focus on delivering the highest quality products and most ethical service in the industry. We seek to continue driving innovation in product and service technologies, and look for every opportunity to minimize the impact of our operations on the environment in which we live and work.

We will undoubtedly face trying times again in the course of our future. But by keeping our eyes firmly fixed on the long term, we can be confident that the investments we make each day in building a stronger, more resilient, more sustainable company will not only earn us a fair return on our invested capital, but will just as importantly honor the promise we made to Bill and Jim to protect and steward the Kinetico family and their legacy.

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