The Return of the Blockbuster Deal

Indeed, the year will likely all but go down as the return of the mega-deal. In June, VF Corp. announced plans to acquire Timberland Co. in a deal valued at $1.8 billion, or just over 11 times Timberland’s 2011 projected EBITDA (earnings before interest, taxes, depreciation and amortization) and 1.3 times revenue. Kohlberg Kravis Roberts & Co. also last month revealed its intention to buy Academy Sports + Outdoors in a deal sources put in the $1 billion range, also around 11 times forward EBITDA.

 
Earlier in the year, eBay acquired sporting goods e-commerce powerhouse GSI Commerce for $2.4 billion and Fila Korea (along with Mirae Asset Private Equity) will shell out $1.23 billion for Acushnet Golf, the owner of Titleist and FootJoy.

 

Promising to create a sporting goods retailing powerhouse up north, Canadian Tire reached an agreement to acquire Forzani Group Ltd. in an $800 million deal. Gildan Activewear plunked down $350 million to acquire GoldToeMoretz and Brown Shoe Co. acquired American Sporting Goods, the owner of the Avia, Ryka and And 1 brands, for $145 million in cash plus assumed debt.
A few of the industry’s up-and-comers are also finding new parents in 2011. PPR, the French luxury goods group that controls Gucci and Puma, bought the hip action sports apparel company Volcom for $607.5 million in a deal also valued at a lofty 11 times EBITDA. Deckers Outdoor, parent of Ugg and Teva, acquired fast-growing sandals maker Sanuk for $120 million – nearly three times the $43 million in revenues Sanuk recorded in 2010.

Other deals have included Genesco’s acquisition of U.K. footwear retailer Schuh, Cramer’s recent buy of Stromgren, and Schutt’s acquisition of Adams USAs football helmet/faceguard assets. Weyco Group, Inc., the parent of Florsheim, acquired The Combs Co., which owns the Bogs and Rafters outdoor and work footwear brands.

With both strategic as well as private equity buyers scouring the marketplace for new deals, the healthy M&A trend shows little sign of letting up, according to investment bankers working the industry.

“The M&A market today is very healthy, particularly compared to last year and during the downturn,” said Christopher Kampe, managing director at Tully & Holland, an investment banking firm in Wellesley, MA. “There are now clearly more buyers than there are sellers and competition among buyers is fierce for quality assets, and that is driving robust valuations.” 

He added, “All of the factors for a big M&A trend are present-lots of cheap capital available, a multitude of private equity buyers, changing attitudes toward M&A from strategics, and a strong stock market.”

Joe Pellegrini, managing director Robert W. Baird & Co. based in Charlotte, NC, likewise sees almost a “perfect storm of M&A activity, probably more robust than the environment that existed from 2004 to 2006.”

First, banks are again willing to finance transactions. Liquidity constraints stemming from the debt crisis in 2008 that froze most M&A activity for nearly two to three years have evaporated. Second, private equity firms “have substantial capital sitting in check books and they are eager to put it to work in new investment opportunities.” But Pellegrini believes much of the M&A activity is being driven by well-positioned and stronger strategic buyers looking for authentic brands and new growth platforms.
ROBUST MULTIPLES

Particularly supporting strategic deals is that many of the leading “aspirational” sporting goods companies such as Lululemon, VF Corp, Under Armour, Wolverine World Wide, Columbia Sportswear as well as Nike and Adidas are trading near 5-year all-time valuation multiples on the public stock market. Pellegrini said a basket of such aspirational stocks trades at 13-14x TTM (trailing twelve months) EBITDA versus 8.5X for the S&P 500 index-representing almost a 30 percent premium to the overall market.

Plump stock multiples leads to a lower cost of capital especially if acquirers use their stock as currency for consideration in engineering a transaction while also justifying paying an above average premium multiple for quality acquisitions. Separate from growth prospects for any acquired brand, expected cost savings and other synergies gained from combining businesses can quickly make a transaction accretive to the bottom line earnings, he said.

Moreover, many strategics are sitting on sizable cash positions on their balance sheet earning at-best 50 to 100 basis points interest compared to significantly higher returns when used in an acquisition.  Finally, many leading sporting goods and outdoor operators are searching for new sources of top-line growth after spending the last few years shoring up balance sheets and strengthening internal competencies in wake of the 2008 financial crisis and surge in sourcing costs largely emanating from China. The positive is that those years of internal rationalization put many acquirers in a much “stronger financial position” to pursue acquisitions than in the past.

“When the downturn took place, the strong companies in the industry werent shrinking or standing still,” said Pellegrini. “They were reinvesting in their business models and building resiliency and improved competencies to become stronger and more nimble.  Although theyre not completely immunized against further global volatility and production shocks, theyre more capable to adjust and consistently outperform weaker competitors. Given these dynamics, the strong franchises have prospered and are now trading at much higher market multiples both nominally and relatively. They are also generating strong cash flows and along with a formidable balance sheet. As a result, youve got all the pieces in place to drive M&A activity.”

At the same time, both strategic and PE buyers overall have become less risk averse.

“I think what’s happened is that decision makers are becoming more comfortable that the financial world might not fall off a second cliff” said Pellegrini.  “As perceived risks have evaporated, multiples have expanded.  It all goes hand and hand.  Would it have been smarter to make acquisitions when the blood was flowing in the streets?  Sure.  But when emotions and uncertainty run high it is human nature to seek cover.  And when things looked horrible, we didnt know just how bad things were going to be.”

Tripp Baird, founding principal at Partnership Capital Growth in San Francisco, said the fact that there’s more private equity capital than at any time in history will also drive deals while pushing up valuations.  Deal volumes fell in the downturn, but have since begun to rebound and capital remains abundant.  He noted that PE firms typically have a 5-to-7 year window to invest the funds and those deadlines are approaching.  Said Baird, “The U.S. has a private equity ‘overhang of nearly $500B, and funds are anxious to invest previously ‘dormant capital, often making them competitive with strategic buyers on valuation.”

While Academy Sports + Outdoors represented the meaty part of such deals, the more likely sized-PE investments will be Fireman Capital Partners (FCP)’s cash infusion in June of roughly $20 million in Newton Running.  Fireman Capital is run by Paul Fireman, the former chairman and CEO of Reebok International, LTD, and his son, Founding Partner Dan Fireman.  Clymb.com, which offers flash sales of outdoor gear, just received $2 million in funding from former Microsoft design guru and Xbox executive J. Allard along with the Oregon Angel Fund, Walden Venture Capital and other individual investors.

Baird likewise concurred that strategic buyers have strong balance sheets after weathering the recession but anemic organic growth.  Said Baird, “They need to buy growth and are willing to pay for it.  Competition among strategic and financial investors has driven robust valuations.”

Baird also said the sports industry generally is seen as attractive to the investment community because of a strong trend toward health & wellness and active lifestyles.  His firm is dedicated to supporting healthy, active, sustainable living companies and those firms-also including fitness clubs and healthy foods makers – have continued to see meaningful price premiums in deals.

Nathan Pund, who heads up the Outdoor Investment Banking Group at D.A. Davidson & Co., also sees continued strong participation in outdoor activities driving future growth and innovation and thus continued interest to invest in the sector.
“The outdoors continues to be a great place for people to recreate, whether skiing, cycling, climbing, action sports, or whatever the activity, people are doing more of it and that is good for the industry,” said Pund. “Some are looking to such activities as a way to enjoy their older age, others are looking to those activities to relieve stress or be healthier in their lives, or to get back with nature.  On top of that, people have adopted the outdoor lifestyle as part of their everyday lifestyle so you see them incorporating items like soft shell jackets and trail running shoes into their work and every day routine.  This ‘aspiration towards the outdoors has been a strong trend and continues to drive a lot of spending in the category.”

For sellers, the primary reasons to sell are obviously that valuations have rebounded. While many of the publicized deals were quoted at a lofty 11X, other deals are still getting done at healthy multiples in the high-single-digit range in the sector.
Kira Spivak, owner of CFO Services in Denver, believes many sellers grand expectations of what they could fetch in a merger have been beat up in the past two years, bringing them a little closer to being able to close a deal with a strategic buyer.
“It might be a good time to sell if youve got a solid, proven business, if you dont feel a huge urgency, and if your expectations for valuation are realistic,” observes Spivak. 

 

“Buyers will always be opportunistic in any market.  The question is more as to where youve proven yourself within your niche as compared to other opportunities to the buyer.”

At the same time, she believes the fact that many companies have tested their business model during the grueling recession provide buyers with more confidence to invest.

“I believe buyers are getting more comfortable in seeing the differences between what was just a dip with the recession vs. a core business issue,” said Spivak.  “Nervous buyers might look at deals. Comfortable buyers close deals.”

Baird noted that while weaker companies are still being ignored, strong brands or companies are receiving premiums due to a dearth of quality opportunities amid all the buyers.

“If your objective is to maximize valuation, I do believe now is a pretty good time,” said Baird.  “I wouldnt say we turned a corner but it feels the recession is largely behind us.  And while I m not going to say people are throwing money around the way there were in 2007, the pricing environment seems to be pretty strong.”
For many brands, moreover, are reaching the stage in their development where partnering with a larger player and tapping into their resources can to help them reach that next level of growth.  The greater sourcing challenges has become a newer lever to encourage such partnering up.

Pellegrini said that while there’s been a few casualties over the years, the recent track record of mergers-citing Merrell with Wolverine, Converse with Nike, and both The North Face and Vans with VF-gives sellers confidence.

“People have seen how you can take a brand and plug it into the right kind of infrastructure with the right kind of support and create significant growth,” said Pellegrini.

Another option for prospective companies looking to sell is to go public via an IPO although Pund describes that market as still lagging behind the general M&A market and much more “fickle” overall.  Freedom Group, the owner of Remington Arms, postponed their planned IPO earlier this year but Bauer went public last year on Toronto’s stock exchange and pending offerings on the New York Stock Exchange are scheduled for action sports chain Tilly’s, bicycle component giant SRAM International, and Skullcandy, the maker of maker of audio headphones and accessories geared toward the action sports and outdoor world.

Pund said the pros of going public are that the owners typically dont have to sell majority ownership in the company-unlike most strategic and PE deals-and may wind up earning more back on their sweat equity through follow-on offerings in the future if the business continues to perform.  That said, the IPO market, except perhaps for social media firms, is still not as robust as it once was and the costs and requirements of an offering and being a public company continue to skew the market towards larger business that can better support those costs and reporting requirements.

The investment bankers caution that any pullback in bank funding could quash the thirst for M&A deals. 

The Greek debt crisis, the U.S.’s own debt ceiling and another terrorist strike are just a few issues that could easily rattle the U.S.’s shaky economic recovery.

Pund believes that current M&A activity would be even more robust if not for the ongoing uncertainty about the economy and its impact on consumer spending.

“It’s getting better every day but I dont think the M&A activity is anywhere near what it was like in 2007, which was obviously a record breaker,” said Pund.  “Unemployment is still high. Housing prices are still very low.  And so when people are uncertain where their next paycheck may come from and worried about their own net worth, be it savings or the depressed equity in their homes, that’s going to impact their buying habits and that translates to less sales growth for outdoor companies.”

That said, Pund believes the M&A market continues to improve and part of that improvement is because the market rewards entrepreneurs for bringing innovation to the marketplace, while motivating the next group of entrepreneurs to drive future innovations and be rewarded with a high payout for that success.
Editors Note: Look for more on this subject at this months SGB Question and more analysis the next issue of SGB magazine. 

“Succesful transactions help support the vitality of the industry by providing a reward to entrepreneurs for product innovation and brand strength, and in turn larger companies can further support the growth of those brands and products thereby providing consumers with better choices for them to spend their money on,” said Pund.

Admitting that he’s a capitalist, Pellegrini agreed that M&A first off provides entrepreneurs the opportunity to realize a payback for their successes.  For the brands, financial buyers often provide growth capital typically at the early stages of their growth while strategics provides “great homes” for more-developed ones to take them to the next level.

“As long as acquirers are taking time and really thinking long and hard about the integration strategy, I think it’s good,” said Pellegrini.  “We are living in a world where just having a brand sitting in a shelf because it’s recognized is not enough It has have a meaning and connection to the consumer.  So I have every high hope that these acquirers are going to deploy resources and intelligence to make the brands stronger and operations better.”
PCGs Baird believes M&A and consolidation are “inevitable.”

“Brands and companies will be bought up and folded into larger strategics and whether those companies will succeed or execute well with them is a mixed bag,” said Baird. “At the same time, there will always be innovation in the lower middle market where’s there’s new products and new product categories that drive growth ala the barefoot running movement and that just kind of continues. So it’s neither good nor bad.”