Description

Situation Overview:

I will keep this write up short (although this a long opportunity)…

Black Diamond, [ticker, BDE], is not an under-valued security using traditional value screens.

BDE does not look statistically cheap.

BDE does not trade at an unchallenging valuation using metrics like price earnings or free cash flow.

BDE is not widely covered by the sell-side community (Bloomberg: 3 buys; 5 holds; 2 sells).

BDE does not have a great balance sheet, if you ignore the Net Operating Loss – as there is really one way to utilize it.

That said, BDE could be in the final chapter of its existence as stand-alone public company. I normally don’t transact in sub $500mm equity values with limited trading volume. However, BDE is in the late innings of its strategic alternatives process. The various alternatives include:

• Sale of the company in a single transaction

• Sale of the company in 2 transactions, whereby, the NOL will be maximized

• Sale of one asset, retain one business plus NOL

• No sale, standalone business plan (no narrative has been disclosed to my knowledge)

For purposes of this write-up, I will focus on the binary deal or no deal.

Event Path:

On March 16, 2015, Black Diamond, announced they engaged financial advisors, Rothschild and Robert W. Baird to explore strategic alternatives for the company. http://www.blackdiamond-inc.com/phoenix.zhtml?c=118683&p=irol-newsArticle&ID=2026085

Key passage:

“Warren Kanders, executive chairman of Black Diamond, commented: "Over the last 15 months, we have undertaken a series of actions to leverage the significant growth in our brands, optimize our platform, drive significant cost reductions, and position the Company for stronger financial and brand performance. We believe the growth in sales and margin in the fourth quarter is an early indication of the benefits of these actions, which we expect to realize increasingly over time.

"At a time when premium active lifestyle and outdoor brands are selling at historically high levels, and there is a scarcity of authentic branded assets available to strategic acquirers, the board's decision to investigate its strategic alternatives results from its belief that the Company is likely to utilize 100% of its NOL balances in connection with this process and represents the logical next step in our ongoing efforts to unlock value for Black Diamond shareholders."

Four months have passed since the announcement, and an announcement should be forthcoming in the next 0-60 days.

On May 29 and June 3, the BDE board of directors terminated members Metcalf and in-coming ceo, Zeena Freeman (technically they resigned, but were allowed to keep their incentive grants upon a change of control).

Lastly, BDE, has yet to file a proxy statement and hold an annual general meeting, and is now in violation of Delaware law. Reading the tea leaves, the next vote the company will hold will for the sale of the company and/or monetization of key business or financial assets.

Link to Delaware law: http://delcode.delaware.gov/title8/c001/sc07/

Business Snapshot:

http://www.blackdiamond-inc.com/phoenix.zhtml?c=118683&p=irol-brands

I will allow various excerpts from the transcript speak for themselves:

“The Gregory sale monetized approximately $48.3 million of our NOL balance, shielding approximately $16.9 million of cash taxes, leaving an NOL balance of approximately $167 million.”

“We anticipate sales of approximately $208 million which would represent an increase of 8% from our 2014 sales, an increase of 11% on a constant currency basis. On a constant currency basis, we are forecasting consolidated gross margins for fiscal 2015 to be approximately 40%.”

“I would like to conclude my remarks by commenting on our March 16 announcement that Black Diamond engaged the financial advisory firms Rothschild Inc. and Robert W. Baird and Company to lead the exploration of a full range of strategic alternatives including the sale of the company's Black Diamond equipment including PIEPS and POC brands in two separate transactions. The company has received a number of non-binding indications of interest with respect to each of these brands. We anticipate that the results of the strategic review process will be known during the third quarter 2015 and we do not intend to comment further regarding this strategic review process unless or until a specific transaction is approved by our Board of Directors or shareholders, the strategic review process is concluded or it is otherwise determined that further disclosure is appropriate or required by law.”

Valuation Snapshot / Key metrics:

Cash      $41

Debt      $22

Real Estate Value $10 (conservative est)

Shares Outstanding ~33mm

Current Price $10

Enterprise Value $321

Net Operating Loss $167mm*

*NOL disclosure:

“The Company estimates that it has available NOL carryforwards for U.S. federal income tax purposes of approximately $167 million. The Company's common stock is subject to a rights agreement dated February 7, 2008 that is intended to limit the number of 5% or more owners and therefore reduce the risk of a possible change of ownership under Section 382 of the Code. Any such change of ownership under these rules would limit or eliminate the ability of the Company to use its existing NOLs for federal income tax purposes. However, there is no guaranty that the rights agreement will achieve the objective of preserving the value of the NOLs.”

Snapshot Valuation in the event the process results in a sale (low end):

Clearly there is a range of values, but looking at precedent transaction multiples, including the sale of Gregory for ~$85mm to Samsonite, we believe BDE is worth $10.50 - $13.50 or 5%-35% higher than current trading levels.

BDE has two businesses. The Black Diamond / PIEPS business and POC. Using round numbers BD generates revenues of ~165mm for 2015 and POC ~45mm or $210 in total sales.

If sold (using 2015 revenue estimates), we believe BD will be sold for 2.0x sales or ~$330mm.

POC is growing faster, and more desirable business to buyers. 2.5x, using midpoint = ~$112mm

Total price of $390mm + Cash + RE – debt = ~$442mm

Due to the taxable nature of a transaction that may/may not transpire, we believe the deal will be structured as an asset sale and would remove all tax burdens from holders.

High End:

Sale Price ~$442

Cost basis ~$142

Gain on sale $300

NOL ~$165

Taxable Income 135

After tax proceeds ~ $442mm

Estimated shares outstanding: ~33mm

= $13.39 / share

Low End (BD at 1.5x, POC at 2.25x):

Sale Price~ $349

Estimated shares outstanding: 33mm

= ~$10.56 / share

Recently, sell-side firm, Canaccord, came out with a valuation range of $14 - $17. Based on our checks, that valuation range seems aggressive…but it’s better to be lucky than smart – we’ll take it.

Downside:

The stand-alone plan is not straight forward, as management does not consistently engage with the sell-side or buy-side community. Prior to the alternatives announcement, the shares were trading in a range of $6.50 - $8. Some of these moves may have been due to (il)liquidity, tax loss-selling, etc so the unaffected price should be $7+-. A stand-alone Plan B, with normalized margins on a $200mm+ run rate = earning power is closer to 50-75c/share (excluding new stock grants to incentivize new CEO). At a break price of $7/share with $60c in cash; NPV of NOL of $1+Value + real estate value / HQ 30c = $5/share or 7-10x earnings. The shares probably trade down to $7 and recover to $8-$8.75 over time.

Probabilities:

Break: $7, assume no recovery (10%)

Dispose of 1 asset: $9 (15%)

Sale + monetize NOL: $12 (75%)

Probability adjusted price: $11.05 / 10.5% spread

Summary:

Common holders are aligned with top management and the remaining board members. The in-coming CEO was terminated during the strategic alternatives process, and was allowed to retain her change of control payments. The company has not filed a proxy and is in possible breach of Delaware law. It is unlikely the strategic alternatives process is not concluded before September 30, 2015. BDE will report earnings on August 11. I would expect an announcement to come either on that report or shortly there-after.

Risks:

No deal / no plan B articulated publicly

Event fatigue

Liquidity – event-driven holders hit eject

Normalized earnings power has very wide range

Listing requirements: must hold annual meeting

Unable to monetize net operating loss via asset disposal or on go forwards basis

Catalyst

Sale of the company

Monetization of NOL