LBO Tutorial – Best Buy Co.
September 16, 2012
Michael Karp
| TMT Portfolio Manager
Jawwad Siddiqui
| TMT Analyst
Jan Iyengar
| TMT Analyst
Alexander Banh
| Chief Strategy Officer
This presentation is for informational purposes only, and is not an offer to buy or sell or a solicitation to buy or sell any securities, investment products or other financial product or service, an official confirmation of any transaction, or an official statement of Limestone Capital Investment Club. Any views or opinions presented are solely those of the author
Overview
What is a Leveraged Buyout?
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LBO Overview Company Valuation
An LBO (leveraged buyout) is when a firm (usually a Private Equity firm) uses a higher than normal amount of debt (known as leverage) to finance the purchase of a company.
1) Pay for company with a
combination of existing cash and leverage
2) Burden of leverage is placed on target company’s balance sheet 3) Annual cash flows of target
company used to pay off debt 4) P/E firm holds target for a set
amount of years, helping it grow organically, through acquisitions, or by installing new management 5) P/E firm sells target for a profit at
the end of holding period
Without Leverage With Leverage Initial Value $100,000.00 $100,000.00 Cash Paid/Down Payment $100,000.00 $10,000.00
Debt Used $0.00 $90,000.00 Y1 Rent Income $10,000.00 $10,000.00 Y2 Rent Income $10,000.00 $10,000.00 Y3 Rent Income $10,000.00 $10,000.00 Y4 Rent Income $10,000.00 $10,000.00 Y5 Rent Income $10,000.00 $10,000.00 Ending Debt $0.00 $40,000.00 Ending Value $200,000.00 $200,000.00 Total Profit $150,000.00 $150,000.00 Returns 150% 1500%
* Due to leverage, returns for the P/E firm are a lot larger than they would be without
leverage
The Ideal Target
What is a Leveraged Buyout?
• Stable cash flows, lots of tangible assets, strong management team
• Tax savings from interest expense and depreciation from writing up assets
enable LBO investors to offer targets substantial premiums over current market
value
• Strategic buyers will still pay more
Event-driven upside, with viable business model amidst underperforming
peers, supports intrinsic valuation to limit downside.
Investment Thesis
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Business Model:
Tangible, in-person electronic sales, still viable. Competitors
are failing, BBY has survived while Circuit City have liquidated & Radio Shack has
begun losing money
Industry:
Growing mobile segment of Best Buy’s Business
Event Driven Upside Thesis:
Tentative bid from Richard Schulze at $24-26 to
take Best Buy private, large upside if deal goes through
Valuation Argument:
Limited downside. Intrinsic valuation close to current share
price.
Company Overview
• Current Stock Price: $18.58 • 52 Week: $16.25 - $28.52 • Industry: Retail
• Headquarter: Richfield, Minnesota • Founder: Richard Schulze
• Employees: 167,000 (2012)
• Locations: 1,103 domestic stores and 85 international stores
• Operations: U.S., Canada, Mexico, Puerto Rico and China
CEO: Hubert Joly
Interim CEO: Mike Mikan Chairman: Hatim Tiyabi
Company Profile
Management, Subsidiaries
Best Buy Mobile, The Carphone Warehouse Five Star, Future Shop, Geek Squad
Magnolia Audio Video, Pacific Sales The Phone House
Company Overview
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• Acts as an intermediary between manufacturers and consumers
• Sells a wide selection of products and accessories
• Also offers a vast range of service offerings, such as extended warranties, installation and repair; knowledgeable sales staff
• Operates in 2 segments: Domestic (w/in U.S.) and International
• Seasonal business with majority of sales coming in Q4 during the holiday season
• Sales dropped to $10.55 billion, down 3% from a year earlier
• Net income fell to $12MM, or 4 cents a share, in Q2, from $150MM, (39
cents/share), a year earlier.
Business Model
Q2 2012 Financial Highlights
• Growth will be driven by ongoing trends, such as, digitalization, mobility, and portability
• Growth opportunities to stem from the expanding consumer base in Asia, Latin America and Middle East markets
• Intensifying price competition will continue to benefit online retailers
• Semiconductor industry will continue to fuel innovation in consumer electronics
Industry Outlook
Recent Developments
April 10, 2012 CEO Brain Dunn resigns after alleged relationship with employee
Aug 6, 2012 Schulze offers to take Best Buy private for $24-$26 a share March 29, 2012
Posts $1.7 billion
quarterly loss, says will close 50 large U.S. stores
SWOT Analysis
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• Service and support offerings (e.g. sales representatives, geek squad, repair services, etc.)
• Integrated and distinct store formats • Economies of scale
• Competitors operate low cost operating structures and seek to compete for sales purely on price
• Economic downturn continues to hurt sales
Strengths
Weaknesses
Risks
• With Going Private: Risk of in insider self-dealing
• Competition and Technology: Amazon? eBay? Mobile Stores? • Company’s liquidity and accounting policies
• Poison Pill
• Borrowed 1.5B through three bond offerings with maturity dates in 2013, 2016 and 2021.
Valuation
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