Description

Background

Brinks was established in 1859 and has had transportation, timber and resources, security monitoring, and armored car/security businesses. Most of the resource assets were sold in 2002, its transportation business (BAX) was sold in 2006 to Deutsche Bahn and the alarm business was spun-off in 2008 as a result of activism.  The remaining business is an amalgamation of security businesses (armored cars, atm) and other cash related logistics services around the world.  Brinks has operations in Latam (42%), EMEA (30%), North America (23%), and Asia Pacific (5%).  The business includes "cash in transit" or (CIT) which is basically the armored car service, "ATM Services" (ATM servicing and replenishment), "Cash Management" (sorting, wrapping, replenishing, check processing, safe management services), "Security Services" (guarding services), and, more recently, "Payment Services."  Its CIT and ATM services are Core Services and represent ~55% of revenue.  Security/Guarding represents 9% of revenue and the rest of the business, which is deemed "High Value Add," represents 36% of revenue.

Management Change

After a long tenure at the company (CEO since 1995) Michael Dan stepped down and the board took over the company in the 4th Qtr of 2011, its Chairman Tom Shievelbein, a Northrop Grunman veteran took over on an interim basis.  After an "extensive search" for a CEO, Shievelbein became its permanent CEO in mid-2012.   Under Shievelbein's tenure in late 2011, the company set its 2012 operating performance targets and had some minor successes as it shut down or sold off its underperforming and non-profitable businesses in its international segments but has had to revise its outlook multiple times.

Summary Thesis-  

1. Turnaround is fully priced in- Brinks trades towards the higher end of the multiple range relative to its peers (13x FWD EBIT) once it is adjusted for legacy pension liabilities and GAAP accounting for Venezuela.  A SOTP analysis giving full credit to a questionable turnaround places FV at $28, yet it trades at a premium despite current management's missteps.
2. Management  has failed to execute, competition far superior- Brinks NA business is barely profitable, hugely capital intensive, lacks pricing power, its North American franchise has become a commodity, its strategy of shifting into higher value add services has failed.  Brinks is falling by the wayside to Loomis & Garda.  Loomis is the NA mkt leader with a 25% share has consistently improved its profitability and grown its revenue base.  In 2012 it announced expansion into LatAm as part of its strategy.  Garda has recently undercut competitors to win a multibillion dollar contract to outsource vaults with BofA.  Brinks needs to invest substantial amounts into its business to remain competitive and efficient, it has been chronically underinvested for the past decade.
3. GAAP accounting overstates the value of  Venezuela ops- Some parts of the Brinks International franchise are healthy and growing, however its accounting for the Venezuelan operation obfuscates the truth. 
4. Growth figures presented appear to show growing businesses when in reality real growth is lower to nil once adjusted for currency depreciation.  "Organic" growth is not equal to "constant currency" growth, "organic growth" reflects price increases that are a result of higher inflation rates and currency depreciation, they do not reflect real growth.
5. Management Stumbles- Early lapses in execution have resulted in multiple adjustments to expectations early into the turnaround, shows naive management team unable to properly set or meet management expectations shows a lack of understanding of what has to be done and what is attainable.
6. Real growth is overstated by failure to adjust for Latam inflation / currency depreciation. 

• · Brinks has a history of consistent under performance, the turnaround of its US business has failed so far.  
  • Why has the turnaround failed thus far?  Brinks is extremely inefficient relative to its competitors and has fallen way behind.  Realizing efficiencies is a multi-year endeavor that will necessitate large capital investments and substantial execution risk.  Although the effort is underway, it is possible Brinks has lagged to far due to years of under-investment.  In addition to underinvestment there appears to be decades of wrong capital allocation, investing in heavy physical assets (armored cars) as opposed to systems to improve efficiency and other process improvement and optimization alternatives.
  • Brinks' North American franchise has turned into a real problem.   Its profitability has nearly disappeared in an extremely competitive business which has suffered from financial crisis-driven rationalizations at major financial institutions..  In 2012, the company gave guidance on NA segment margins to be between 3.6% and 4.6%. Margins came in at 3.44%.  Then the company lowered its guidance for margins come in at 1% for FY2013.  On an 9-month basis margins in this segment are at 0.72%, its operating margin for NA compressed to 0.30% in the 3Qtr'13. 
    • The strategy set forward for the turnaround so far has focused on cost reduction, business process efficiency and focus on higher "value-add" services combined with technological investment.  A few senior management hires have been made as well:  Chief Commercial Strategy Officer 01/2013, New President of Brinks NA 12/2012, New CIO 12/2013.
    • The goal as stated in last quarter conf call is to shift what they call their low value add business (CIT- cash in transit) to high-value add business hoping to go from 46% of the revenue mix to 51% (ATM) in the next three years.
    • Full 2014 guidance was provided with organic revenue growth at 5-8% and an expected currency impact rate of between (-3% to -5%) implying real growth of only 2-3%.  Given some of the EM currency moves we have seen already, these currency impact assumptions may prove to be too low and real growth may prove to be non-existent.
  • Little to no pricing power in NA - Competition in NA is fierce between Loomis, Garda (taken private) and Brinks.  Financial performance from Garda suggests the issue may not be specific to Brinks and that the business has just gotten too competitive and has become very much a commodity.  Garda, which is for the most part a NA player has seen its own operating margins go from, 6.2% in 2012 to 1.6% in 2013 and down further to 0.39% in LTM 2013 so the performance of the Brinks NA.
• · GAAP reporting for the Venezuela business distorts the numbers and the adjustment  from both an earnings perspective and balance sheet shrinkage is significant.  GAAP reporting requires the company to convert its cash and revenue at the official Bolivar exchange rate of 6.2/ USD and fails to capture the real economic reality or earnings power of the business.  However, the company cannot convert its cash nor repatriate it at that rate.  It cannot repatriate any of the cash (regardless of rate).  Plenty of disclosure on this throughout the filings.  Per GAAP rules, Venezuela revenue is being converted at the official exchange rate when the black market goes for 60-70 Bolivars per USD.  Even though the company has these accounting policies fairly well defined in its disclosure, it appears to be hiding behind the GAAP requirement.  There is no attempt to de-consolidate Venezuela despite the fact the company appears to be adjusting everything else to non GAAP reporting.  Going forward, Venezuela will experience inflation as if there had been an 80% devaluation and price increases that mirror that kind of devaluation will eventually be reflected as increased revenue.  Without any adjustment to the exchange rate to reflect the inflationary pressure, the effect will be magnified in 2014 because the financials will benefit from inflation adjustments without a corresponding currency adjustment.
  • There is net cash of ~$122m stranded in Venezuela that cannot be repatriated, there is likely no buyer for this business and if there is it will be a local player, at best a "low-ball" bid.  There have been many instances of nationalizations, it is quite surprising this business has not been the target of the Maduro government.
  •  ~$54m of an estimated $166m in EBIT to be reported this year is being derived from Venezuela
  • ~$29m of FWD EBIT will come from Venezuela in 2014
  • It is important to point out that the company only owns 60% of the Venezuela operating company yet fully consolidates it on its balance sheet according to GAAP accounting.
  • What is Venezuela worth?  If you were to convert the estimated 2013 Venezuelan EBIT at the black market rate it would equal to $5mm and only 60% is attributable the company,  Based on a range of between 10x to 8x dollarized earnings Venezuela estimated value could range from $24-30mm

EV Adjustments-

• Cash in Venezuela zeroed- This cash is basically stranded, and is in no event worth the official exchange rate, as reported by BCO.  The black market exchange rate is less than 1/10 of the official rate.
• Pension Liabilities Added- Brinks' legacy businesses saddled it with UMWA plan and Black lung liabilities.  These liabilities are very real and were carried on the balance sheet at $671mm as of 3Qtr2013.  On the4thQ call the company stated that these liabilities would decrease by $115m  for UNWA and $150m for its US pension plan.  In the past, Brinks has had to issue shares to contribute to its annual pension expense due to the lack of cash at the holding company as most of its cash is stranded abroad.  Brinks has stated that going forward these liabilities will be covered in cash and has guided $19mm in pension costs for 2014 which is a large decrease from the 2013 figure which was $44mm.  For this analysis a total of $406m in unfunded pension liabilities are assumed to reflect the most recent announcement.
• Tax Assets reduced- "Tax Assets" of $443mm are being carried on the balance sheet, $363mm of them are in the US.  Given the lack of profitability in the US, it is questionable whether or not these should be accounted for at full face value in the EV calculation.  The losses exist due to the companies' inability to historically generate any profits in the US.  Even if these "assets" could be used to offset taxable profits, a net present value calculation should be applied to determine a fir value.  In this analysis, only the foreign Tax assets are added to the EV calculation. 

Cash & ST Investments                       +242

- Venezuela Stranded Cash                 -122

+Unfunded Pension Liability                +406

+Deferred Tax Asset (foreign)             +80

Net Debt                                              522

SO (mm)                      48

SP                                $31.00

Cap                                                      1,497

Adjusted EV                                         2,225

(GAAP)                                   

North America              2012A  2013 Outlook   2013 9mo

NA Revs                      945      1030                708

NA Op Income             32.5     10.3                 5.1

Op Income Margin       3.44%  1%                   0.72%

Intl                              

Intl Revs                      2,900   3,215               2,251

Intl Op Inc                    228      241                  166.5

Op Income Margin       7.86%  7-8%                7.4%

Estimated Rev and EBOT Breakdown (based on 2012)

                        Ven      Mex     Braz     OtherLatam      LATAM Total EMEA Int

Est. %              9%       11%     10.1%  11.6%              42%                 31.2%

Revs                342      424      388      446                  1600

Est Op Inc        7.5%    5.0%    12.0% 

Est Cont           26        36        47

2014 Outlook Breakdown and Adjustment for Venezuela

Revs                            4,090

Op Income                   278.0

G&A                             -47.0

Pension                       -19.0

Other                           -2.0

FY2014 EBIT               229.0

Less Ven EBIT -           -25.65

Adjusted EBIT              203.4

Adjusted EBIT Margin  5.43% 

• · Adjusting the outlook for what Venezuela contributes implies the company is targeting only $199mm in estimated EBIT for everything ex-Venezuela and subpar margins for the rest of the business (4.6%) relative to its comps (pension is added to avoid double counting)

Management has stumbled early on having to revise its outlook and push back the timing of attaining its goals.  Management's guide is for 5-8% (unadjusted for currency) growth, its real growth outlook is 2-3%

• It is hard to tell where this growth may come from?
• Mexico could grow a bit but margin expansion has slowed.
• Brazil real growth should be flat with a slowing economy,
• NA is flat
• France is a 1-2% grower. 
  • Growth most likely coming from inflationary regions such as Venezuela, Argentina and Brazil, making it all nominal growth and not real growth.

Recent Events

• · 02/2012 Gabelli files a 13D
• · 11/2012- Shamrock activist fund writes letter to board demanding a sale of the company and accusing the company of "years of empty promises and failed initiatives", no ownership stake is reported however, and the Company rebuffs with a letter stating inaccuracies and defending its investment and turnaround strategy.
• · 11/2012- Garda security is taken private in an LBO by APAX partners and Founder Stephan Cretier for $1b (11.6 FWD EV/EBIT, 11.8x LTM EV/EBIT)
• · 03/2013- Gabelli (7% shareholder) wrote a letter to the CEO urging the company to make public any offers received by strategic buyers suggesting there maybe some interest but also the the current management team is inclined to turn around rather than sell.
• · 10/21/2013- Company announces "improved" 3rd Quarter earnings - company beats sell side EPS estimates "driven primarily by Venezuela", no mention is made of the fact that the NA business is barely profitable at this stage, Europe is flat, Mexico is improving- shares re-rate further and trade at all time highs.  Company guides on "preliminary" 2014 (non GAAP) operating income margins of 7% (includes a 40% Venezuela deval assumption)
• · 12/2013 Garda announces a 12-year, $1.4 billion processing deal with BofA which will outsource 1000 employees to Garda.
• · 1/2014 Venezuela devalues Bolivar official rate from 6.3 to 11.3 or (80%).  The company has determined however that the dual currency structure does not require an adjustment and that it will continue to use the official rate of 6.33 for the foreseeable future. 
• · 1/30- 4Qtr earnings announced "strong profit growth in Intl Partially offset by decline in NA", again driven by Venezuela.  The company mentions that collections have dragged out in Latam as government owned customers in Mexico and Venezuela delay payments.  Company provides full 2014 outlook. (CAPEX at $185-195m), NA operating margins of (0-2%) compared to 1% margins in 2013, increased capital leases of $15 relative to 2013 leases of $5 to reflect newly acquired assets.

Relative Valuation- 

On an adjusted basis, Brinks trades at the same multiple as Prosegur and Loomis despite having half the profitability.

Company                     SP        EV        Cap      EV/FWD EBIT  Adj FWD EBIT EBIT Margin

G4S plc                        234      5,866   3,633   13.4x               438                  5.7%

Loomis AB                   148.25 13,491 11,160 11.6x               1,161               9.9%

Prosegur Seguridad     4.55     3,623   2,807   10.5x               344                  8.9%

Securitas AB                66        34,567 24,093 10.7x               3,225               4.8%

Brinks                          31        2,225   1,497   11.1x               200                  5.3%

• A generous SOTP valuation accounting for improvement in most areas to a normalized level suggests FV$27.86/shareand would assume the following:
  • Venezuela is worth 10x earnings converted at black market rates, less minority interest.  Equivalent to 2x inflated GAAP earnings.  Back-out Venezuela cash.
  • NA is turned around and operating margins stabilized at 4% (a stretch given what has transpired and what its competitors are doing).
  • Mexico's operating income margins of 8.5% operating margins is met (current margins are LSD).  Company targets long term margins in Mexico at 10%

SOTP                           2014 Revs       Norm OpMgn   EBIT Mult         Value

North America              1,030               4.0%                41.2     8.0x     329

Venezuela (60% owned) NA                NA                   3.0       10.0x   18

Brazil                            388                  12.0%              46.5     8.0x     372

Other Latam                 446                  11.0%              49.0     10.0x   490

Mexico                         424                  8.5%                36.0     9.0x     324

EMEA & Other             1,460               6.0%                108.0   10.0x   876

Corporate                                                                    -45       7.5x     (337)

Total EBIT                                                                    238

Less Debt                                                                    (522)

Less Pension (Adjusted)                                              (406)

Less Venezuela Cash                                                  (122)

Tax Asset                                                                     80

Plus Consolidated Cash                                               242

Equity Value                                                                 1,345

Value per Share                                                           $27.86

Brinks already sports the valuation of a well run, growth company

Risk Factors

• · Traction in the turnaround plan is the obvious risk, recent guidance revisions and lowered expectations appear to indicate changes have been harder to implement than previously thought.
• · The Venezuelan political landscape could change for the better, but recent political events suggest the contrary.  

Catalyst