ALLIANT TECHSYSTEMS INC ATK
June 14, 2014 - 4:37pm EST by
JetsFan
2014 2015
Price: 137.58 EPS $6.56 $0.00
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
TEV: 6,230 TEV/EBIT 8.0x 0.0x

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  • Merger
  • Spin-Off
  • Special Situation
 

Description

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

Summary

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.

Company Overview

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).

Valuation

A few housekeeping notes:

  • ATK’s fiscal year ends on March 31, so its fiscal 2015 began on April 1 2014.
  • ATK has an in-the-money convertible bond outstanding.  It recently issued a redemption notice and will settle any notes converted in cash.
  • 10% of the ATK pension liability goes to ATK Sporting. No other significant liabilities will be transferred to the spin-off.
  • Maintenance capex is estimated at 1.5% of sales.
  • Management has guided to mid-to-upper single digit organic growth but thinks it could do better than that

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.

2015E   Low Mid High
         
Revenue Growth   6.0% 8.0% 10.0%
Revenue   $2,367.8 $2,412.5 $2,457.1
EBIT Margin   13% 14% 15%
EBITDA   $381.8 $411.7 $442.6
Depreciation   $74.0 $74.0 $74.0
EBIT   $307.81 $337.74 $368.57
Interest expense   $13.0 $13.0 $13.0
EBT   $294.8 $324.7 $355.6
Income tax   $103.2 $113.7 $124.4
Net Income   $191.6 $211.1 $231.1
Shares Outstanding   32.18 32.18 32.18
EPS   $5.95 $6.56 $7.18

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
   
Ex ratio 2.2272
   
ATK Sporting ($mm)  
Implied Price $72.59
F/D Shares O/S 32.18
F/D Market Cap $2,335.99
   
Total Debt $325.0
Pension Liability $63.3
Cash $0.0
Net Debt $388.3
   
EV $2,724.3
   
   
EV / EBITDA (2015E) 6.6x
P/E (2015E) 11.1x
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
   
Upside 47%

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:

  2013 2012 2011 2010 2009 2008 2007 2006 2005 2004
Winchester Revenue $777.6 $617.6 $572.0 $549.3 $567.7 $489.1 $431.7 $373.6 $344.8 $318.5
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%
SCOTTS MIRACLE-GRO $57.64 $3,532.4 $440.7 $3,973.1 18.1x 9.3x 1.4x 1.0x 15.0%
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%
WD-40 $73.10 $1,094.9 ($28.0) $1,066.9 26.6x 15.4x 2.7x -0.4x 17.8%
ELIZABETH ARDEN $29.38 $872.8 $276.3 $1,149.1 nmf 14.0x 0.9x 3.4x 6.8%
INTER PARFUMS $27.75 $858.4 ($301.2) $557.2 26.5x 8.0x 1.1x -4.3x 13.7%
Average         22.9x 11.0x 1.6x   14.9%
                   
Accessories                  
VF CORP $61.64 $26,525.0 $674.4 $27,199.4 19.9x 12.8x 2.2x 0.3x 17.2%
HANESBRANDS $85.32 $8,495.9 $1,569.1 $10,065.0 17.1x 13.0x 2.0x 2.0x 15.2%
WOLVERINE WORLD WIDE $26.30 $2,667.4 $935.8 $3,603.2 16.3x 11.0x 1.3x 2.8x 11.8%
COLUMBIA SPORTSWEAR $83.06 $2,897.0 ($529.2) $2,367.8 24.4x 11.1x 1.2x -2.5x 10.7%
Average         19.5x 12.0x 1.7x   13.7%
                   
Firearms                  
STURM RUGER $60.37 $1,171.1 ($55.1) $1,116.0 13.4x 7.2x 1.7x -0.4x 24.0%
SMITH & WESSON $16.62 $913.2 ($56.9) $856.3 11.7x 5.0x 1.4x -0.3x 27.4%
Average         12.5x 6.1x 1.5x   25.7%
                   
OLIN $27.85 $2,200.4 $383.2 $2,583.6 15.6x 6.4x 1.1x 0.9x 16.5%
                   
ATK Sporting $72.59 $2,336.0 $388.3 $2,724.3 11.1x 6.6x 1.1x 0.9x 17.1%

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.

Segment Low  High Weight
       
Ammunition 9.0x 12.0x 50%
Accessories 11.0x 13.0x 38%
Firearms 5.0x 7.0x 12%
       
Weighted Multiple 9.3x 11.8x  
Implied ATK Sporting Price $106.76 $138.77  

Industry Overview

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:

  • American Rifleman magazine says there are now five million women shooters, up over 46% since 2001
  • National Shooting Sports Foundation estimates domestic consumer ammunition sales grew at a 12.6% CAGR from 2009 to 2012
  • National Sporting Goods Association estimates that there are 36.6mm active shooters in the US in 2012, a 21.8% increase from 2008 (5% CAGR)

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:

  • OLN Q1 2014 10Q: "Based on the elevated level of first quarter 2014 commercial demand, the level of the commercial backlog and the absence of any significant inventory throughout the supply chain, Winchester anticipates that higher than historical levels of demand from its commercial customers for pistol, rifle and rimfire will continue through the third quarter of 2014."
  • ATK M&A Call April 29 2014: "So our view of demand has been that, for the most part, in general, demand has remained very robust for really all of our ammunition categories. As we mentioned last quarter, there was some softening in some of the 5.56mm .223 calibers that began to show some softening. There were some comments made by a couple of the publicly-traded retailers that have seen some softening. We've had communication, of course, with those retailers. And it's largely been confined to those kinds of calibers that are rifle calibers. Hand gun ammunition remains very robust. Much of the ammunition associated with rimfire or plinking ammunition for .22lr is very, very robust with significant backlog positions. So generally, we have not seen any wholesale softening for ATK products in the market... So for us, the watchword to date, as of this call, has been stability with continued demand and opportunities for margin improvement and growth in the ammunition business."
  • OLN Q1 2014 conference call: "As we look at the Winchester business going forward, we continue to believe that the significant increase in gun ownership has occurred over the past five years as well as the increase in the number of people who become regular target shooters will result commercial ammunition demand in excess of historic levels."
  • ATK has had limited order cancellations and backorders still represents over a year's worth of ammunition production
  • Winchester’s backlog of $400mm is still three-fold that of 2012 levels and its inventory is 20% below that of 2012 levels
  • Remington estimates that between 2009 and 2012, it had an average annual unsatisfied demand of approximately $110 million and $100 million for its firearms and ammunition

DMA Summary

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.

  15-Apr-14 30-Apr-14 15-May-14 30-May-14
ORB Short Interest 1,255,543 1,267,487 1,082,743 1,276,717
 % Change   1.0% -14.6% 17.9%
ATK Short Interest 1,309,179 1,315,588 1,186,284 1,283,509
 % Change   0.5% -9.8% 8.2%

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.

Conclusion

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.

Risks

  • Deal falls apart (superior proposal for ORB, votes not passing, regulatory issues)
  • Legislative changes that would hinder demand
  • Lead, copper and zinc price increases
I do not hold a position of employment, directorship, or consultancy with the issuer.
I and/or others I advise hold a material investment in the issuer's securities.

Catalyst

Spin-off of by year end 2014
    sort by   Expand   New

    Description

    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

    Summary

    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.

    Company Overview

    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).

    Valuation

    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.

    2015E   Low Mid High
             
    Revenue Growth   6.0% 8.0% 10.0%
    Revenue   $2,367.8 $2,412.5 $2,457.1
    EBIT Margin   13% 14% 15%
    EBITDA   $381.8 $411.7 $442.6
    Depreciation   $74.0 $74.0 $74.0
    EBIT   $307.81 $337.74 $368.57
    Interest expense   $13.0 $13.0 $13.0
    EBT   $294.8 $324.7 $355.6
    Income tax   $103.2 $113.7 $124.4
    Net Income   $191.6 $211.1 $231.1
    Shares Outstanding   32.18 32.18 32.18
    EPS   $5.95 $6.56 $7.18

    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
       
    Ex ratio 2.2272
       
    ATK Sporting ($mm)  
    Implied Price $72.59
    F/D Shares O/S 32.18
    F/D Market Cap $2,335.99
       
    Total Debt $325.0
    Pension Liability $63.3
    Cash $0.0
    Net Debt $388.3
       
    EV $2,724.3
       
       
    EV / EBITDA (2015E) 6.6x
    P/E (2015E) 11.1x
    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
       
    Upside 47%

    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:

      2013 2012 2011 2010 2009 2008 2007 2006 2005 2004
    Winchester Revenue $777.6 $617.6 $572.0 $549.3 $567.7 $489.1 $431.7 $373.6 $344.8 $318.5
    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%
    SCOTTS MIRACLE-GRO $57.64 $3,532.4 $440.7 $3,973.1 18.1x 9.3x 1.4x 1.0x 15.0%
    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%
    WD-40 $73.10 $1,094.9 ($28.0) $1,066.9 26.6x 15.4x 2.7x -0.4x 17.8%
    ELIZABETH ARDEN $29.38 $872.8 $276.3 $1,149.1 nmf 14.0x 0.9x 3.4x 6.8%
    INTER PARFUMS $27.75 $858.4 ($301.2) $557.2 26.5x 8.0x 1.1x -4.3x 13.7%
    Average         22.9x 11.0x 1.6x   14.9%
                       
    Accessories                  
    VF CORP $61.64 $26,525.0 $674.4 $27,199.4 19.9x 12.8x 2.2x 0.3x 17.2%
    HANESBRANDS $85.32 $8,495.9 $1,569.1 $10,065.0 17.1x 13.0x 2.0x 2.0x 15.2%
    WOLVERINE WORLD WIDE $26.30 $2,667.4 $935.8 $3,603.2 16.3x 11.0x 1.3x 2.8x 11.8%
    COLUMBIA SPORTSWEAR $83.06 $2,897.0 ($529.2) $2,367.8 24.4x 11.1x 1.2x -2.5x 10.7%
    Average         19.5x 12.0x 1.7x   13.7%
                       
    Firearms                  
    STURM RUGER $60.37 $1,171.1 ($55.1) $1,116.0 13.4x 7.2x 1.7x -0.4x 24.0%
    SMITH & WESSON $16.62 $913.2 ($56.9) $856.3 11.7x 5.0x 1.4x -0.3x 27.4%
    Average         12.5x 6.1x 1.5x   25.7%
                       
    OLIN $27.85 $2,200.4 $383.2 $2,583.6 15.6x 6.4x 1.1x 0.9x 16.5%
                       
    ATK Sporting $72.59 $2,336.0 $388.3 $2,724.3 11.1x 6.6x 1.1x 0.9x 17.1%

    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.

    Segment Low  High Weight
           
    Ammunition 9.0x 12.0x 50%
    Accessories 11.0x 13.0x 38%
    Firearms 5.0x 7.0x 12%
           
    Weighted Multiple 9.3x 11.8x  
    Implied ATK Sporting Price $106.76 $138.77  

    Industry Overview

    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:

    DMA Summary

    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.

      15-Apr-14 30-Apr-14 15-May-14 30-May-14
    ORB Short Interest 1,255,543 1,267,487 1,082,743 1,276,717
     % Change   1.0% -14.6% 17.9%
    ATK Short Interest 1,309,179 1,315,588 1,186,284 1,283,509
     % Change   0.5% -9.8% 8.2%

    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.

    Conclusion

    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.

    Risks

    I do not hold a position of employment, directorship, or consultancy with the issuer.
    I and/or others I advise hold a material investment in the issuer's securities.

    Catalyst

    Spin-off of by year end 2014

    Messages


    SubjectDeal risk and ORBK?
    Entry06/16/2014 10:04 AM
    Membertyler939
    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?

    SubjectRE: Deal risk and ORBK?
    Entry06/16/2014 10:45 AM
    Membertyler939
    Sorry for typing in wrong symbol.  My bad.

    SubjectMargins
    Entry06/16/2014 01:44 PM
    Memberaa123
    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. 
     

    SubjectRE: Margins
    Entry06/16/2014 02:32 PM
    MemberJetsFan
    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:
     
              5-Jul-09 4-Oct-09 3-Jan-10 31-Mar-10 4-Jul-10 3-Oct-10 2-Jan-11 31-Mar-11 3-Jul-11 2-Oct-11 1-Jan-12 31-Mar-12 1-Jul-12 30-Sep-12 30-Dec-12 31-Mar-13 30-Jun-13 29-Sep-13 31-Dec-13 31-Mar-14
                                                     
    Sporting Group Revenue         $214.8 $198.4 $167.3 $181.4 $237.6 $230.7 $208.6 $252.6 $229.3 $248.7 $243.1 $281.8 $273.2 $275.4 $287.6 $319.9 $358.3 $421.3 $524.2 $558.4
    Sporting Group EBIT         $22.4 $37.7 $27.0 $20.8 $33.0 $32.3 $30.4 $32.8 $29.3 $23.3 $22.8 $15.8 $20.8 $25.1 $30.2 $42.2 $44.1 $57.8 $81.1 $87.5
                                                     
    Savage         $0.0 $0.0 $0.0 $0.0 $0.0 $0.0 $0.0 $0.0 $0.0 $0.0 $0.0 $0.0 $0.0 $0.0 $0.0 $0.0 $6.4 $57.0 $54.0 $62.0
    Bushnell         $0.0 $0.0 $0.0 $0.0 $0.0 $0.0 $0.0 $0.0 $0.0 $0.0 $0.0 $0.0 $0.0 $0.0 $0.0 $0.0 $0.0 $0.0 $85.0 $132.0
    Core Sporting         $214.8 $198.4 $167.3 $181.4 $237.6 $230.7 $208.6 $252.6 $229.3 $248.7 $243.1 $281.8 $273.2 $275.4 $287.6 $319.9 $351.9 $364.3 $385.2 $364.4
                                                     
    EBIT Margin         10.4% 19.0% 16.1% 11.5% 13.9% 14.0% 14.6% 13.0% 12.8% 9.4% 9.4% 5.6% 7.6% 9.1% 10.5% 13.2% 12.3% 13.7% 15.5% 15.7%
                                                     
    YoY Organic   Revenue Growth n/a n/a n/a n/a 10.6% 16.3% 24.7% 39.3% -3.5% 7.8% 16.5% 11.6% 19.2% 10.7% 18.3% 13.5% 28.8% 32.3% 34.0% 13.9%
    QoQ Organic Growth         n/a -7.6% -15.7% 8.4% 31.0% -2.9% -9.6% 21.1% -9.3% 8.5% -2.3% 16.0% -3.1% 0.8% 4.4% 11.3% 10.0% 3.5% 5.8% -5.4%
                                                     
    NICS Checks (Quarterly)         3,217,227 3,134,149 3,864,389 3,662,540 3,256,513 3,304,964 4,185,599 4,246,573 3,750,530 3,720,834 4,737,014 4,855,085 4,046,229 4,286,273 6,404,716 7,014,240 4,431,701 4,104,562 5,542,770 6,236,060
    NICS YoY Change         n/a n/a n/a n/a 1.2% 5.5% 8.3% 15.9% 15.2% 12.6% 13.2% 14.3% 7.9% 15.2% 35.2% 44.5% 9.5% -4.2% -13.5% -11.1%
     
     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.

    SubjectNICS vs. Adj-NICS?
    Entry07/07/2014 07:26 AM
    Membermrmgr
    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.

    SubjectConvo w/ gun nut
    Entry08/24/2014 05:13 PM
    MemberWeighingMachine
    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).

    SubjectRe: Re: worth a revisit?
    Entry11/21/2014 05:32 PM
    Membervandelay278

    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.

    Thanks


    SubjectRe: VSTO spin-off analyst presentation thoughts
    Entry01/07/2015 10:53 AM
    MemberMJS27

    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

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