|Shares Out. (in M):||32||P/E||11.1x||0.0x|
|Market Cap (in $M):||4,393||P/FCF||9.4x||0.0x|
|Net Debt (in $M):||1,837||EBIT||338||0|
Merger spin-off with 40%+ upside: Go long “ATK Sporting” spin-off by buying 1 share of Alliant Techsystems Inc (NYSE: ATK) and shorting 2.2272 shares of Orbital Sciences Corp (NYSE: ORB). ATK Sporting currently trades at an implied price of $72.59, representing 6.6x EBITDA and 11x earnings, a significant discount to its intrinsic value of $100.00+. This pricing inefficiency should close by early 2015, once the ATK Sporting spin-off is complete and its trading has seasoned. This investment thesis with graphs can be viewed here: http://www.scribd.com/doc/229682144/ATK-Sporting-Write-Up
On April 29 2014 ATK and ORB signed a definitive agreement for a proposed Morris Trust transaction in which ATK’s Sporting division will be spun out to ATK shareholders and ORB will merge with the remaining ATK. The net effect is that ORB will be taking over two of ATK’s three divisions, Aerospace and Defense, while ATK’s management will stay with the spun-out third division, Sporting. The transaction should close by year end 2014 and ATK Sporting will commence trading as an independent company on the NYSE. Its name and ticker have yet to be decided.
ATK Sporting is a leading manufacturer of ammunition, accessories and arms (centerfire and rimfire rifles, shotguns) for hunters, shooting enthusiasts and law enforcement. Some of its key brands include Federal Premium, Savage Arms, BLACKHAWK! and Bushnell. The company has 5,800 employees and is headquartered in Utah. The investor presentation for the ATK Sporting spin-off can be seen here: https://www.sec.gov/Archives/edgar/data/866121/000095015714000416/ex99-9.htm
ATK Sporting had CY2013 sales of $2.2bn and adjusted EBITDA of $361mm with a 13% EBIT margin. Ammunition represents approximately 50% of sales, with accessories at 38% and firearms 12%. Consumer sales represent ~90% of sales with the remainder to law enforcement. Over the past decade, ATK Sporting had 14% annual organic growth with low capital requirements (management guided to 1.5% of sales). The company has secured a $750mm senior secured financing commitment from BofA and will dividend $300-$350mm to its parent prior to the spin-off. Net debt will be $300-$350mm, representing leverage of less than 1.0x EBITDA.
Current ATK CEO Mark DeYoung will become Chairman and CEO of ATK Sporting. He currently holds $8mm of ATK stock. At parentco ATK, they have bought back shares at a 1.7% CAGR over the past three years and pay out a dividend at a 1% yield. Return on equity at ATK has been north of 20% for the past dozen years.
ATK established its Sporting division through a number of acquisitions: Blount International’s ammunition division in 2001, Eagle Industries in 2009 (accessories), BLACKHAWK! in 2010 (accessories), Caliber in 2013 at 5.5x EBITDA (firearms) and Bushnell in 2013 at 10x EBITDA (accessories).
A few housekeeping notes:
At 6-8% revenue growth and 13%-15% EBIT margin, I estimate ATK Sporting will earn $6.00 - $7.20 per share and $380mm - $440mm of EBITDA this year. This is quite a bit more conservative than sell side analyst EBITDA forecasts with CS at $449mm and RBC at $455mm.
Using the average of our forecasts, one can currently establish a position in ATK Sporting at 6.6x EBITDA, 11.1x earnings and an unlevered pre-tax free cash flow yield of 13.8% (before working capital commitments). We conservatively estimate that once the spin-off is completed, ATK Sporting will trade at over $100.00 per share (40%+ upside), representing 15x EPS, 9x EBITDA and a 12% discount rate.
|ATK US Equity||$137.58|
|ORB US Equity||$29.18|
|ATK Sporting ($mm)|
|F/D Shares O/S||32.18|
|F/D Market Cap||$2,335.99|
|EV / EBITDA (2015E)||6.6x|
|EV / EBITDA - Capex||7.2x|
|Unlevered Pre-tax FCF Yield||13.8%|
|Historical organic growth rate||14.0%|
|Forecast organic growth rate||6-8%|
|Intrinsic Value at 12% Discount Rate||$119.15|
|Intrinsic Value at 15x EPS||$98.39|
|Intrinsic Value at 9x EBITDA||$103.17|
ATK Sporting will be a unique entity in the public markets as it has no direct comps. The ammunition division represents half of its revenue. The commercial ammunition industry in the US is an oligopoly led by ATK Sporting with an estimated $1.2bn in ammunition sales, followed by Winchester (a subsidiary of Olin Coporation, NYSE: OLN) with $780mm in sales and Remington (owned by Cerberus) with $440mm. Ammunition sales represent only 30% of Olin’s revenue so a large portion of its valuation is based on its volatile Chlor Alkali Products business.
We view the commercial ammunition business as a niche consumer staples business. It is a non-cyclical business with steadily growing demand. Consumers show brand loyalty and quality is very important. ATK only began showing segmented Sporting results in CY Q2 2009, so we can’t use them to judge its long term performance (especially through the last recession). Olin provides good segmented disclosure on its Winchester division. Over the past decade, Winchester has shown steady growth, with only one slight down year and growth through the recession years, while remaining profitable every year:
|Winchester Revenue Growth||25.9%||8.0%||4.1%||-3.2%||16.1%||13.3%||15.6%||8.4%||8.3%|
|Winchester EBT Margin||18.4%||8.9%||6.6%||11.5%||12.1%||6.7%||6.1%||4.2%||2.3%||6.9%|
Since no pure-play ammunition comps exist, for valuation of the ammunition segment we look to a basket of small and mid-cap niche non-cyclical consumer staples companies. These businesses trade at 9x-12x EBITDA.
ATK Sporting’s accessories division represents less than 40% of sales. For this division we look to small and mid-cap apparel and accessories companies. These businesses trade at 11x-13x EBITDA. ATK recently acquired Bushnell for 10x EBITDA.
Savage Arms represent a bit more than 10% of ATK Sporting’s sales. Comparable firearms businesses such as Ruger and Smith & Wesson trade at around 5x-7x EBITDA.
|Company Name||Price||Market Cap||Net Debt||EV||P/E (2014E)||EV/EBITDA (2014E)||EV/Revenue (2014E)||Net Debt / EBITDA (2014E)||EBITDA Margin|
|Leading Niche Consumer Staples|
|SPECTRUM BRANDS HOLDINGS||$78.25||$4,126.2||$3,011.6||$7,137.8||18.3x||9.8x||1.6x||4.1x||16.4%|
|BOSTON BEER COMPANY||$219.11||$2,017.9||($48.9)||$1,969.1||34.3x||11.3x||2.2x||-0.3x||19.4%|
|HELEN OF TROY||$59.08||$1,689.4||$122.6||$1,812.0||13.5x||9.0x||1.3x||0.6x||14.9%|
|WOLVERINE WORLD WIDE||$26.30||$2,667.4||$935.8||$3,603.2||16.3x||11.0x||1.3x||2.8x||11.8%|
|SMITH & WESSON||$16.62||$913.2||($56.9)||$856.3||11.7x||5.0x||1.4x||-0.3x||27.4%|
Utilizing these trading comps gets us a blended EBITDA multiple for ATK Sporting of 9.3x - 11.8x, leading to an implied ATK Sporting share price of $107.00 - $139.00. At a more conservative multiple of 9.0x, ATK Sporting would trade at $103.00.
|Implied ATK Sporting Price||$106.76||$138.77|
The National Instant Criminal Background Check System, or NICS, data is a good proxy for new gun demand. The FBI launched this program in 1998 to check a firearm purchaser’s background prior to the sale of a gun. Each time a gun is purchased, a new platform for ongoing ammunition and accessories sales is created for ATK Sporting. NICS checks have exhibited a consistent upward trend over the last number of years, rising from a 12-month average of 746k in 2005 to an LTM 12-month average of 1.7mm
The increase in NICS checks has corresponded to a steady mid-teens annual increase in ATK Sporting revenue.
Panic gun buying occurred in Q4 2012 through Q1 2013 when stricter gun-control measures were being discussed by the government. This introduced many new people to gun ownership and has continued to fuel demand for ammunition and accessories.
The Federal Firearms and Ammunition Excise Tax (FAET) is a tax imposed on the sale of firearms and ammunition by manufacturers, producers and importers. This data is available from Treasury and offers additional insight into the demand for firearms and ammunition. This indicator has also shown steady growth for ammunition over the past decade, rising from $60mm in 2000 to over $200mm in 2012.
There are numerous factors that have contributed to the increased participation in shooting sports over the past decade, including favorable industry-wide trends such as increased female participation, an increased focus on self-defense and a rise in demand due to legislative concerns:
This large and increasing installed customer base generates a growing stream of recurring revenue for ammunition and accessories companies.
Given the large influx of participants into shooting sports, the long-term opportunity for manufacturers in the industry looks sound. However, due to recent rapid growth, some investors are concerned regarding potential softness in short-term demand. Industry commentary and dynamics indicate continued strong results throughout this year and beyond:
ORB and ATK have entered into a definitive agreement. Terms of the agreement state that ORB shareholders will receive 0.449 ex-spin ATK shares (reverse spread implies 2.227 ORB shares per ATK share). Key conditions include a majority vote on both sides, HSR and SEC approval. There is a $50mm dual break fee and the termination date is April 1 2015. ORB’s advisors are Bank of America Merrill Lynch and Cravath Swaine & Moore. ATK’s advisors are Citi and Cleary Gottlieb Steen & Hamilton. The proxy should be distributed in Q3 with closing by year end.
Why Does This Opportunity Exist?
We believe ATK management and the Board of Directors decided to execute this transaction because the Sporting division has shown strong, consistent and profitable growth amid record product demand while the Aerospace and Defense divisions have shown consistently declining revenues amid sequestration and contract losses. It appears that ATK management is cutting the fat to establish a high growth entity with significantly more upside. This deal works for ORB as it is highly accretive because ORB trades at a significantly higher multiple than ATK.
The ATK Sporting Stub is incredibly volatile in the market as there is a dearth of risk arbitrage spread setters involved in the name. This has led to this pricing inefficiency. All of the risk arb desks we spoke with did not cover the deal. The lack of interest in the stub is further supported by the absence of short-selling on either ORB (setting up stub) or ATK (setting up reverse stub). Only 2.2% of ORB’s float is sold short.
|ORB Short Interest||1,255,543||1,267,487||1,082,743||1,276,717|
|ATK Short Interest||1,309,179||1,315,588||1,186,284||1,283,509|
On May 20 2014, Dick’s Sporting Goods stock dropped 18% on poor quarterly results and guidance for the year. They blamed the decline on the golf business, and to a lesser extent hunting. Within that guidance, they expected hunting to recover within a couple quarters but saw no end to the downturn in golf demand. ATK sells some of its products through Dick’s. Analysts are concerned that this could affect short term results at ATK Sporting. Since the quarterly results were announced, DKS insiders have acquired $6mm in DKS stock.
On May 15 2014, ATK released its Q4 2014 results and hosted a conference call. ATK Sporting results were good, with “Core Sporting” revenue (excluding Savage and Bushnell) up 13.9% year-over-year against a very tough comp. However, Core Sporting was down 5.4% from the previous quarter. With the incredible run in revenue growth ATK Sporting has achieved historically, the market gets spooked at any potential sign of a downturn. Also, the company guided to only mid-to-upper single digit organic growth (as opposed to 14% shown historically) with the caveat that “hopefully, [they] will be able to even do better than that.” Also, they stated that they are “just a bit cautious with some uncertainties of the market strength.”
There is concern in the market regarding potential peak margins and growth rates in the ammunition space. Manufacturers have been implementing price increases and are running their factories 24/7 to try to meet record demand. There have been many instances of ammo shortages in specific calibers. Some investors are skeptical and think that the recent growth and high margins have overshot and will revert to some lower level.
ATK Sporting is an attractively priced, market leading, non-cyclical, double-digit grower with a conservatively capitalized balance sheet that produces sustainable free cash flow and has a high return on invested capital. It trades at a 32.3% discount to the market multiple.
The market is offering the opportunity to purchase the ATK Sporting spin-co at a substantial discount to intrinsic value and offers 40%+ upside in the near to medium term.
|Subject||Deal risk and ORBK?|
|Entry||06/16/2014 10:04 AM|
Since the premise of the trade is that the deal with ORBK happens (there is in fact no discussion of what happens to ATK shold the deal fall through), and since the deal is highly accretive to ORBK, do you have any thoughts on not shorting ORBK? What is your view on ORBK should the deal fall through?
|Subject||RE: Deal risk and ORBK?|
|Entry||06/16/2014 10:45 AM|
Sorry for typing in wrong symbol. My bad.
|Entry||06/16/2014 01:44 PM|
Thanks for the interesting idea. Can you please give us more color as to why you are not worried about peak margins? I checked the Olin presentation and saw that 2013 EBITDA was $158 million vs average of prior years around $60/$70 million. Altough not clear, they seem to indicate that after significant cost savings in 2015/2016 of $35 to $40 million range, the division would generate $110 to $115 million of EBITDA. So it does seem that 2013 was exceptional. I guess the relevant question is what is the normalized margin of the business? Why do you think 13 to 15% is the right range? Thanks.
|Entry||06/16/2014 02:32 PM|
It's not that I'm not worried about peak margins. Of course I am and I see that as a risk. But the low valuation somewhat provides a margin of safety against this. My thesis on go-forward margins being 13%-15% is based on the large increase in ammunition demand based on significant increase in new guns outstanding as shown by the NICS and FAET data. This new demand has not been met with a corresponding increase in supply so manufacturers have increased prices which expanded margins. Industry commentary and dynamics indicate that this trend may continue. Here is all of the disclosed data for ATK Sporting, along with quarterly NICS checks:
So 2009, 2010, 2011 and 2013 and Q1 2014 were very good periods for margins, averaging 13.4%. LTM averaged 14.3%. 2012 was a poor year with average margin of 8.2%. So its not fair to only look at 2012 margins.
Q1 2014 was quite high at 15.7%. Management indicated that this was somewhat higher than trend but also had relatively positive commentary on not seeing too much of a slow-down in margin for the near term:
"Well, there are certainly record level of profitabilities. The rates we're seeing, for example, in our most recent quarter in the Sporting Group, we delivered 15.8%, that's certainly is a high watermark for the Sporting Group. If you remember, last year, we were at 10%. So there's a risk of some potential softening that could occur based on product mix, based on replenishment of inventories that begin to occur in the distribution chain, manifesting themselves at retail. That could impact some of the sales and growth and some margins on product. We have not seen that really begin in a big way yet. We've had limited cancellations, our backorder position still represents over a year's worth of production in Sporting, so we have a good backlog position. So I think we're in good shape for that. We're going to do our best to sustain those margins, but I wouldn't be surprised if there's some pressure there."
Hope this helps.
|Subject||NICS vs. Adj-NICS?|
|Entry||07/07/2014 07:26 AM|
Was wondering if there is a specific reason that you are using raw NICS data vs. NSSF-adjusted NICS data when talking about current trends?
My understanding is that over the past couple of years the scope of activities which necessitate a background check have increased and the NSSF adjustments try to strip out this scope increase to arrive at a cleaner proxy for growth in gun sales.
If looking at adjusted NICS, the return to secular growth seems much more in doubt. Through May YTD of this year, adjusted checks were down 24.8% on a y/y basis and up only 3.4% on a 2-year basis, whereas on a raw basis y/y was down only 6.9% and up a much more significant 24.6% on a 2-year basis - if the adjusted numbers are a better proxy for growth in underlying demand, this calls into question your assertion that the 7.5 year trend has resumed post-surge.
|Subject||Convo w/ gun nut|
|Entry||08/24/2014 05:13 PM|
So I've been taking a closer look at this situation and reached out to this right wing gun nut friend to get a sense of availability, pricing,etc. I want to be clear that he is truly a right wing gun nut - he listens to republican radio porn, goes to the range at least 3 times per month and has gun mag subscriptions. Anyway, while he used to have a small stash of ammo (say 500 rounds or enough for 5-10 visits to the range), he now has a stash of 3,000 rounds (30-60 visits). His stash has been steadily increased throughout the Obama presidency. It doesn't sound like he is alone, at least in the world of right wing gun nuts who I assume purchase a significant % of total US ammo sOld each year. This is a big concern as if a republican ( or even a democrat perceived as being more gun friendly) came to power, we would see 1) an end to stash growth (which likely means that the past several years are not representative of 'normal' demand) and 2) may even see stash decline which may allow the deferment of purchases for several months by gun enthusiasts. Anyway, I dont know how representative or helpful this is but I thought I'd pass along (fwiw, I'm going to pass on buying these shares at this time as I have no idea what normalized earnings look like).
|Subject||Re: Re: worth a revisit?|
|Entry||11/21/2014 05:32 PM|
Would you mind posting your F15/F16/F17 revenue/EBITDA/FCF estimates?
We are getting closer to ~6x EBITDA and an ~11% yield which while cheap is a bit richer than you indicated.
|Subject||Re: VSTO spin-off analyst presentation thoughts|
|Entry||01/07/2015 10:53 AM|
Hi Jets fan - question on ammo...
as you stated, it is obviously a consumable, but how do you think about a one time bump as paranoid people have stocked up? in other words, if i previously owned 1 gun and consumed 1x bullets/shells per month, if i now own 5 guns i don't now consume 5x bullets/shells per month because there are only so many hours in the day to shoot stuff.
also, do you have any thoughts on government sales? i haven't dug into this at all yet, but i can remember lots of headlines on the conservative rags over the last year or so about various gov't agencies making huge ammo purchases for unknown reasons. for example, the post office bought a bunch of bullets. as far as i know letter carriers are unarmed...
thanks in advance