Wednesday, December 19, 2012

Revised 12/22 Divesting Gun Ownership: Public Funds Deserves No Credit

Divesting Gun Ownership: Public Funds Deserves No Credit

Cerberus, a private equity firm, has announced plans to sell its stake in the gun manufacturer, Freedom Group.  The press is reporting this decision as a dramatic reaction to the shootings in Newtown, Connecticut.  Apparently, Cerberus was feeling pressure from some of its large institutional investors, such as CALPERs, CALSTERs, and the New York Common Retirement Fund.  

Rather than being lauded for their efforts, the trustees and politicians should be lambasted.  They haven’t done anything to advance their stated objective of fostering gun control.  They’ve just ducked the issue and asked Cerberus to pass the problem on to a new group investors.  Meanwhile, they’ll pocket a nice return on the sale of guns, bullets, and silencers.  Cerberus looks like it is being responsive and doing something difficult and may be even financially painful.  I doubt it.

Let’s take a quick look at Freedom Group.  The company is the largest manufacturer of guns and ammunition in the world and operates under a number of brands, including Remington and Bushmaster.  Cerberus built the company by making a series of acquisitions beginning in 2006.  According to filings with the SEC, it appears that Cerberus paid about $158 million in consideration for its various purchases.[1]  Cerberus received $248 million via the retirement of preferred stock in 2010 and 2011[2].  So it appears that Cerberus and its investors already have a profit.  Meanwhile, Cerberus has also pulled out $5.3 million in management fees through the end of 2011[3]

A back of the envelope calculation suggests that Cerberus and their investors stand to make a bunch more money on the sale of the company, unless Freedom Group can’t sell guns and ammunition anymore (LOL).  In round figures, Freedom Group should generate about $160 million in Adjusted EBITDA in 2012[4][5].  If the company is sold for 6 times EBITDA, a below average multiple, investors would earn about $225 million ($960 million in proceeds less $650[6] million in long-term debt and $75 million in other liabilities, and 95% ownership) on top of the $220 million they’ve already earned.  If my math is right, the gross investment multiple will be about 3 times.  Even if Cerberus invested more than the $158 million it reported in the SEC filings and receives a lower price on the sale, the decision to sell is still easy and profitable.

Getting your money manager to sell a profitable investment doesn’t demonstrate courage of any kind.  In 2006 when Cerberus started building its gun platform, I doubt any of the public funds said a word.  A month after 32 people died at Virginia Tech, Cerberus acquired Remington.  Investors were quiet.  After all, the weapons were a Glock 19 and Walther P22, not Remington products.  In 2009, thirteen people died in Binghamton and another thirteen perished at Ft. Hood Texas.  Meanwhile, Cerberus was adding Dakota Arms (rifles), Barnes Bullets, and Advanced Armaments (silencers, legal in 39 states according to the company); again, the investors were probably silent.  Earlier, this year, at Aurora, Colorado, James Holmes used a Remington 810, among other weapons.  Silence.

We’d be better served if the public pension plans held onto their gun investments and forced Cerberus to take an active stand on gun and ammunition control.  The Public Pension Plans have washed their hands, but they haven’t removed the dirt.

[1] Form S-1 Registration Statement, Amendment #4, May 17, 2010, p 146
[2] Freedom Group Annual Report 2011, p 115, 3rd Quarter 2012, p 14
[3] Freedom Group Annual Report 2011, p 115; Freedom Group Annual Report 2010, p 110.
[4] Through the end of the 3rd Quarter of 2012, the company had $118 million in adjusted EBITDA, and appears to generating better that $40 million per quarter.  Quarterly Report for Period ended September 30, 2012, pp.31-32
[5] EBITDA is earnings before interest, taxes, depreciation, and amortization.  The adjustment appears to remove other non-recurring items.  EBITDA is a common measure of profitability in Private Equity
[6] According to the Quarterly Report, the company had $647 million in long-term debt, p 1

No comments:

Post a Comment