Filterbuy: Fresh Air

Sector

Industrials

Background

David Heacock is the founder and CEO of Filterbuy. We cover the challenges of setting up a manufacturing process from scratch, the importance of a founder getting their hands dirty, and the economics of a direct-to-consumer model versus third-party logistics.

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Date

December 27, 2024

Episode Number

197

Background / Overview

Filterbuy was born out of David Heacock’s entrepreneurial journey, which began with side hustles in e-commerce and culminated in his departure from a successful career as an options trader at Goldman Sachs. In 2012, at age 29, Heacock acquired a struggling family industrial supply business in Talladega, Alabama, with the intent to pivot it into a new venture. Drawing on prior experience dropshipping office supplies (including air filters), he identified the pleated air filter market as an attractive opportunity due to its consumable nature, large market size, and logistical inefficiencies.

Filterbuy started as a D2C air filter brand, manufacturing and selling directly to end users, bypassing traditional retail and distribution channels. Over the past decade, the company has expanded into four strategic pillars: (1) D2C filtration, (2) business-to-business (B2B) commercial filtration, (3) retail distribution (recently launched in 505 Walmart stores), and (4) a residential HVAC service business (Filterbuy HVAC Solutions). With approximately 1,000 employees and a proprietary ERP system, Filterbuy operates a vertically integrated model that includes manufacturing, fulfillment, and logistics, positioning it to disrupt the indoor air quality market.

Key Products / Services / Value Proposition

Filterbuy’s core product is pleated air filters, which are consumable components used in HVAC systems to improve indoor air quality. Unlike competitors, Filterbuy manufactures commercial-grade filters but competes on price with residential-grade products, enabled by its efficient distribution model. The company offers over 300 filter sizes, far exceeding the 15 most common sizes stocked by big-box retailers, catering to diverse customer needs.

Value Proposition:

• Consumable Product: Air filters require replacement every 1-3 months, ensuring recurring revenue and high customer retention.
• D2C Model: By manufacturing and fulfilling orders directly, Filterbuy eliminates intermediaries, reducing costs and enabling competitive pricing.
• Logistical Efficiency: Optimized logistics and proprietary ERP system allow for cost-effective delivery, including same-day delivery in select markets.
• Brand and Quality: Filterbuy emphasizes high-quality products, robust packaging, and quick service, differentiating it from cheaper, flimsier alternatives.
• Broad Catalog: Offering 300 sizes enables Filterbuy to serve niche markets that retailers cannot, aggregating demand across residential and commercial segments.

Product Economics (Illustrative):

Note: Revenue splits are estimated based on the podcast’s emphasis on D2C dominance and recent retail entry.

Segments and Revenue Model

Filterbuy operates across three primary segments, with a fourth (HVAC services) in early development:

1. D2C Filtration: The core business, selling pleated air filters directly to residential and commercial customers via its website and Amazon (Seller-Fulfilled Prime).
2. B2B Commercial Filtration: Targets commercial clients (e.g., hotels, hospitals) with higher-end products like HEPA and rigid cell filters, supported by a 26-person outside sales team.
3. Retail: A new channel launched in 505 Walmart stores, targeting single-filter purchases at lower price points ($4 vs. $12 D2C).
4. HVAC Services: An emerging business in South Florida, with plans for national expansion, leveraging Filterbuy’s brand and customer base.

Revenue Model:

• D2C: Generates $12 average selling price (ASP) per filter, with customers incentivized to buy multi-packs (e.g., 4-packs) to optimize shipping economics. Revenue is driven by volume (millions of units) and repeat purchases due to the consumable nature.
• B2B: Higher ASP ($20-$50) for specialized filters, with revenue driven by long-term contracts and sales team efforts.
• Retail: Lower ASP ($4) for single filters, targeting in-store shoppers. Revenue is constrained by lower margins and high upfront costs (e.g., shelf management, marketing).
• HVAC Services: Not yet significant, but expected to generate service-based revenue (e.g., maintenance contracts, installations).

Mix and Splits:

• Channel Mix: ~80% D2C, ~15% B2B, ~5% retail (estimated based on podcast).
• Customer Mix: Split between residential (60%) and commercial (40%), with D2C serving both and B2B focused on commercial.
• Geo Mix: Primarily U.S., with manufacturing and distribution centered in Alabama and four additional distribution centers.
• Product Mix: Pleated air filters dominate (~90%), with emerging higher-end commercial products (e.g., HEPA) contributing ~10%.
• End-Market Mix: Residential HVAC (60%), commercial buildings (30%), industrial/other (10%).

Historical/Forecasted Mix Shifts:

• Retail is expected to grow significantly over 5 years, potentially reaching 20-30% of revenue as Filterbuy expands into more stores.
• B2B is scaling with new product launches (e.g., HEPA filters), potentially doubling its share to 30% in 3-5 years.
• HVAC services could become a major contributor long-term, leveraging brand equity and customer acquisition expertise.

Headline Financials

Filterbuy’s financials reflect its rapid growth and operational efficiency, driven by its D2C model and vertical integration. Below is a summary based on available data:

Revenue Trajectory:

• Grew from $0 in 2012 to $250M in 2024, implying a ~30% CAGR over 12 years.
• D2C drives $200M (80%), with B2B ($37.5M) and retail (~$12.5M) as smaller contributors.
• Growth drivers: (1) increasing D2C volumes, (2) expanding B2B sales team, (3) retail channel ramp-up, (4) brand awareness.

Cost Trajectory / Operating Leverage:

• Variable Costs: Raw materials (filter media, glue, frames) and shipping costs dominate. Manufacturing cost per filter is ~$2, with landed cost optimized by avoiding overseas imports.
• Fixed Costs: Manufacturing facilities, equipment, and corporate overhead (100 corporate employees). Vertical integration reduces reliance on third-party logistics, enhancing operating leverage.
• Gross Margin: High (~80%, $12 ASP - $2 cost = $10 gross profit per filter), driven by low production costs and D2C pricing power.
• EBITDA Margin: Estimated at 15-20% ($37.5M-$50M), reflecting logistics efficiency but tempered by retail investments and HVAC startup costs.
• Operating Leverage: Strong in D2C due to fixed manufacturing and ERP costs spread over high volumes. Retail has lower leverage due to high upfront costs and lower ASP.

Capital Intensity and Allocation:

• Capital Intensity: Moderate. Initial manufacturing setup was low-cost (~$100K), but scaling to 300 sizes required ongoing investments in machinery and distribution centers.
• Capex: Primarily maintenance (e.g., replacing laminators) and growth (e.g., new distribution centers, retail infrastructure). Estimated at 5-10% of revenue ($12.5M-$25M).
• Capital Allocation: Focused on organic growth (D2C, B2B, retail) and selective M&A (e.g., HVAC service expansion). The failed freight business ($50 tractor trailers) highlights past missteps, now corrected by refocusing on core pillars.
• FCF: Likely positive but constrained by retail and HVAC investments. Cash conversion cycle is short due to D2C model (low receivables, minimal inventory days).

Value Chain Position

Filterbuy operates midstream in the air filter value chain, controlling manufacturing, fulfillment, and last-mile delivery. Its vertically integrated model eliminates intermediaries (e.g., distributors, third-party logistics), capturing value across the supply chain.

Primary Activities:

• Inbound Logistics: Sourcing raw materials (filter media, glue, frames) domestically to avoid high shipping costs for bulky inputs.
• Operations: Manufacturing in Alabama, with a proprietary ERP system optimizing production of 300 filter sizes.
• Outbound Logistics: Four distribution centers and partnerships with FedEx and UPS (via Roadie for same-day delivery) ensure efficient delivery.
• Marketing/Sales: D2C via website and Amazon, B2B via sales team, and retail via Walmart. Brand emphasis on quality, speed, and service.
• Service: Quick delivery and customer support enhance retention, critical for a consumable product.

Go-To-Market (GTM) Strategy:

• D2C: Leverages e-commerce expertise and ERP-driven logistics to offer competitive pricing and fast delivery.
• B2B: Outside sales team targets high-value commercial clients, with higher ASPs and long-term contracts.
• Retail: Targets in-store shoppers with lower-priced single filters, complementing D2C multi-pack sales.
• HVAC Services: Early-stage, focusing on South Florida with plans for national expansion via brand leverage.

Competitive Advantage: Filterbuy’s value-add lies in its logistical efficiency and broad catalog, enabled by vertical integration and technology. By manufacturing and fulfilling directly, it avoids the high costs of third-party logistics (e.g., Amazon FBA fees, which would make two-thirds of its catalog unprofitable). Its ERP system optimizes inventory and shipping, while its brand differentiates it from commoditized competitors.

Customers and Suppliers

Customers:

• Residential: Homeowners replacing HVAC filters (60% of revenue). High repeat rates due to consumable nature.
• Commercial: Hotels, hospitals, offices (40% via B2B). Higher ASPs and stickier contracts.
• Retail: In-store shoppers at Walmart, typically buying single filters.
• Demographics: Broad, spanning homeowners (middle-income, urban/suburban) and commercial property managers.

Suppliers:

• Raw materials (filter media, glue, frames) sourced domestically to minimize shipping costs.
• Low supplier power due to commoditized inputs and Filterbuy’s scale (bulk purchasing).
• Logistics partners (FedEx, UPS/Roadie) are critical, but Filterbuy’s internal distribution reduces dependency.

Pricing:

• D2C: $12 ASP, driven by value-based pricing (quality, speed, convenience). Multi-pack incentives lower per-unit shipping costs.
• B2B: $20-$50 ASP, reflecting premium commercial-grade products and contract-based pricing.
• Retail: $4 ASP, competing with residential-grade filters but constrained by retailer margins and upfront costs.
• Drivers: Brand reputation, logistical efficiency, and mission-criticality (clean air) support pricing power. Price elasticity is moderate, as delivery speed significantly impacts conversion rates.

Bottoms-Up Drivers

Revenue Model & Drivers

Filterbuy generates revenue through unit sales of air filters, with D2C as the primary driver. Key drivers include:

• Volume: Millions of filters sold annually, driven by recurring demand (1-3 month replacement cycle). Broad catalog (300 sizes) aggregates niche demand.
• Pricing: $12 ASP in D2C reflects value-based pricing, while $4 in retail targets price-sensitive shoppers. B2B commands higher ASPs.
• Repeat Purchases: High retention due to consumable nature, amplified by brand loyalty and fast delivery.
• Channel Expansion: Retail and B2B growth diversify revenue, with retail potentially scaling to 20-30% in 5 years.
• Customer Acquisition: Strong e-commerce expertise and brand investment drive low CAC, with 10M+ end users and 10-20K weekly new-to-brand retail customers.

Revenue Mix:

• D2C: $200M (80%), high growth (30% CAGR), high contribution margin (~80%).
• B2B: ~$37.5M (15%), moderate growth, higher margins but lower volume.
• Retail: ~$12.5M (5%), low growth currently, lower margins due to high costs.
• Organic Growth: Dominant, with retail and B2B as recent inorganic expansions.

Cost Structure & Drivers

• Variable Costs (~20% of revenue):
• Raw materials (~$2 per filter): Filter media, glue, frames. Domestic sourcing avoids high shipping costs.
• Shipping: Optimized via internal logistics and partnerships (FedEx, UPS/Roadie). Multi-pack sales reduce per-unit costs.
• Contribution Margin: ~80% ($12 - $2 = $10 per filter), reflecting low variable costs.
• Fixed Costs (~60-65% of revenue):
• Manufacturing facilities and equipment (e.g., $55K laminator, $100K initial setup).
• Corporate overhead (100 employees, ERP system maintenance).
• Retail investments (shelf management, marketing).
• Operating Leverage: High in D2C due to fixed costs spread over large volumes. Retail has lower leverage due to high upfront costs.
• Gross Margin: ~80%, driven by low production costs and D2C pricing power.
• EBITDA Margin: 15-20% ($37.5M-$50M), reflecting logistics efficiency but tempered by retail and HVAC investments.

FCF Drivers

• Net Income: Driven by EBITDA ($37.5M-$50M) less taxes and interest (not disclosed).
• Capex: Moderate (5-10% of revenue, $12.5M-$25M), split between maintenance (machinery) and growth (distribution centers, retail).
• NWC: Low due to D2C model (minimal receivables, short inventory days). Cash conversion cycle is short, enhancing FCF.
• FCF: Likely positive but constrained by retail expansion and HVAC investments. Historical freight business losses highlight past FCF drag.

Capital Deployment

• Organic Growth: Investments in D2C logistics, B2B sales team, and retail infrastructure.
• Inorganic Growth: Early-stage HVAC service expansion via potential M&A, leveraging brand and customer acquisition expertise.
• Past Missteps: Freight business ($50 tractor trailers) was a capital misallocation, shut down in 2023 after four years of losses.

Market, Competitive Landscape, Strategy

Market Size and Growth

• Market Size: The U.S. air filter market is estimated at $2B-$3B annually, split between residential (60%) and commercial (40%). Pleated air filters are a significant subset ($1.5B).
• Growth: ~5-7% CAGR, driven by:
• Volume: Rising HVAC penetration, aging infrastructure, and increased awareness of indoor air quality.
• Price: Moderate inflation (~2-3% annually), with premium commercial filters commanding higher ASP keyed to performance.
• Industry Drivers: (1) Replacement demand (consumable nature), (2) regulatory focus on air quality, (3) HVAC system growth, (4) e-commerce adoption.

Market Structure

• Residential: Fragmented, with 3M’s Filtrete brand as the leader (strong retail presence). Smaller players offer low-quality, flimsy filters.
• Commercial: Consolidated, led by American Air Filter (AAF). Fewer players due to higher technical requirements.
• Online vs. Retail: 84% of transactions occur in-store, 16% online, but online is growing faster (~10-15% CAGR).
• MES (Minimum Efficient Scale): Moderate in D2C due to logistics and catalog requirements. High in retail due to upfront costs and brand investment.
• Cycle: Stable, non-cyclical demand due to consumable nature, though commercial segment is sensitive to construction cycles.

Competitive Positioning

Filterbuy plays across both residential and commercial markets, a unique positioning enabled by its commercial-grade products and D2C pricing. It competes with:

• Residential: 3M (Filtrete), Honeywell (licensed brand), and private labels (e.g., Home Depot’s HDX). Filterbuy has gained online share but lags in retail.
• Commercial: AAF and smaller players. Filterbuy’s B2B sales team targets high-value clients, leveraging price and quality.
• Online: Filterbuy is a top-50 Amazon seller, surpassing 3M online but facing fragmented competition from smaller D2C players.

Market Share:

• Estimated at 10-15% of the $1.5B pleated air filter market ($150M-$225M), with higher share online (20-25%) and lower in retail (5%).
• Growth exceeds market (~30% CAGR vs. 5-7%), driven by D2C and B2B expansion.

Hamilton’s 7 Powers Analysis

1. Economies of Scale: Strong. Vertical integration and high D2C volumes reduce per-unit costs, enabling competitive pricing. MES is moderate, deterring smaller entrants.
2. Network Effects: Weak. No direct network effects, but brand loyalty and repeat purchases create indirect stickiness.
3. Branding: Moderate. Filterbuy’s focus on quality, packaging, and service builds brand equity, differentiating it from commoditized competitors. Retail expansion amplifies brand reach.
4. Counter-Positioning: Strong. D2C model and proprietary ERP system create a superior business model that incumbents (e.g., 3M, AAF) cannot replicate without disrupting their retail or B2B focus.
5. Cornered Resource: Moderate. Proprietary ERP system and logistics expertise are unique, but raw materials and manufacturing are replicable.
6. Process Power: Strong. Optimized manufacturing and logistics processes (e.g., same-day delivery, 300-size catalog) create cost and service advantages.
7. Switching Costs: Moderate. Consumable nature ensures repeat purchases, but customers can switch to competitors if price or delivery speed lags.

Key Advantages: Counter-positioning, process power, and economies of scale form Filterbuy’s moat, enabling it to compete across residential and commercial markets while maintaining profitability.

Strategic Logic

• Capex Bets: Offensive investments in retail (Walmart) and HVAC services aim to build a holistic indoor air quality brand. Defensive investments in logistics (e.g., distribution centers, UPS partnerships) maintain D2C dominance.
• Vertical Integration: Reduces costs and enhances quality control, critical for D2C and B2B margins.
• Horizontal Expansion: Retail and B2B diversify revenue, while HVAC services leverage brand equity for long-term growth.
• M&A: Potential HVAC acquisitions to scale nationally, using Filterbuy’s customer acquisition expertise to drive synergies.
• Focus: Refocusing on four pillars after exiting freight business reflects disciplined capital allocation.

Valuation Perspective

Filterbuy’s valuation is not disclosed, but we can infer a range based on financials and industry multiples:

• Revenue: $250M (2024).
• EBITDA: $37.5M-$50M (15-20% margin).
• Industry Multiples: Consumer products (CPG) and e-commerce businesses trade at 1-3x revenue and 10-15x EBITDA. D2C brands with strong growth and margins (e.g., Harry’s, Dollar Shave Club) command premiums.
• Valuation Estimate: $500M-$750M (2-3x revenue) or $375M-$750M (10-15x EBITDA), reflecting Filterbuy’s high growth (~30% CAGR), profitability, and unique positioning.
• Ownership: Privately held by David Heacock, with no disclosed external funding or private equity involvement.

Valuation Drivers:

• Upside: Retail expansion, B2B growth, and HVAC services could double revenue in 5-7 years, supporting a higher multiple.
• Risks: Retail execution (high upfront costs, lower margins), HVAC scalability, and potential competition from larger players (e.g., 3M, AAF).

Key Dynamics and Unique Aspects

Filterbuy’s business model is unique due to the following dynamics:

1. Vertical Integration in a Fragmented Market: By controlling manufacturing, fulfillment, and delivery, Filterbuy eliminates intermediaries, reducing costs and enabling competitive pricing. This contrasts with competitors like 3M, which rely on retail distribution, and AAF, which focus on B2B.
2. Logistics as a Core Competency: Filterbuy’s proprietary ERP system and optimized logistics (e.g., same-day delivery via UPS/Roadie) create a cost advantage, particularly for bulky air filters. Avoiding Amazon FBA fees saves ~20% on certain SKUs, making two-thirds of its catalog profitable only through internal fulfillment.
3. Consumable Product with Recurring Revenue: The 1-3 month replacement cycle ensures high retention, akin to software subscriptions but in a physical product. This drives marketing efficiency and predictable cash flows.
4. Broad Catalog Advantage: Offering 300 filter sizes aggregates niche demand, serving customers that big-box retailers (limited to 15 sizes) cannot. This enhances market share and customer loyalty.
5. Hybrid Residential-Commercial Positioning: Filterbuy’s commercial-grade filters compete on price with residential products, enabling it to capture share in both markets—a rare feat given the bifurcated industry structure.
6. Brand and Technology Synergy: Filterbuy combines old-school manufacturing with modern e-commerce and logistics technology, creating a “blue ocean” where competitors struggle to replicate its model.
7. Retail as a Strategic Bet: Despite lower margins, retail expansion (e.g., Walmart) builds brand equity and reaches the 84% of consumers shopping in-store, positioning Filterbuy as a holistic indoor air quality leader.
8. HVAC Services Vision: The nascent HVAC business leverages Filterbuy’s 10M+ customer base and brand to disrupt a fragmented market, with potential for national scale via M&A.

Standout Insights from David Heacock:

• Logistics Over Product: Heacock’s assertion that Filterbuy is a “logistics business” underscores the importance of delivery speed and cost efficiency. The surprising impact of same-day delivery on conversion rates highlights consumer demand for instant gratification, even for commodity products.
• Manufacturing Challenges: The four-year journey to achieve cost-competitive manufacturing reveals the steep learning curve of vertical integration. The humid May crisis and $55K laminator purchase illustrate the grit required to overcome operational hurdles.
• Brand as a Differentiator: Heacock’s early focus on quality, packaging, and service created a defensible brand in a commoditized market, driving loyalty and justifying premium pricing.
• Freight Misstep: The failed freight business (50 tractor trailers, shut down in 2023) highlights the risks of overextending beyond core competencies, reinforcing the need for focus.
• Long-Term Vision: Heacock’s reframing of Filterbuy as the “world’s leading indoor air quality company” drives strategic decisions (e.g., retail, HVAC), balancing short-term profitability with long-term brand-building.

Conclusion

Filterbuy’s success stems from its vertically integrated, logistics-driven D2C model, which leverages a consumable product to generate recurring revenue in a fragmented market. Its ability to serve both residential and commercial customers with commercial-grade filters at competitive prices sets it apart, while its proprietary ERP system and optimized logistics create a defensible moat. The company’s ~30% CAGR to $250M in revenue, estimated 15-20% EBITDA margin, and moderate capital intensity reflect strong economics, though retail and HVAC investments may constrain near-term FCF. Strategic bets on retail and HVAC services position Filterbuy to dominate the indoor air quality market, with a potential valuation of $500M-$750M. Hamilton’s 7 Powers highlights counter-positioning, process power, and economies of scale as key advantages, ensuring Filterbuy’s ability to outmaneuver larger competitors like 3M and AAF. Heacock’s focus on systems, patience, and action offers a blueprint for building a scalable, differentiated business in a traditional industry.

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