Description

We view Jarden Corporation (JAH) as a very attractive short candidate at current levels.  In our opinion, JAH is a serial acquirer with low quality of earnings and highly suspect corporate governance.  The stock has recently traded up after the company announced a modified Dutch tender for up to $500mn worth of stock (12.1mn shares were ultimately purchased at $36 per share).  At the time of the announcement JAH also announced lackluster Q4 results and the suspension of its dividend.  We view Jarden’s most recent financial maneuvering as nothing more than a creative way to temporarily drive shares higher while increasing EPS in 2012 enabling the company to maximize management compensation.  

Company Description:  Jarden is a hodgepodge of various semi-discretionary consumer products.  Jarden consists of four business segments: Outdoor Solutions, Consumer Solutions, Branded Consumables and Process Solutions. The company has operations in the US, as well as in Asia, Canada, Europe and Latin America.

Background:  In March 1993, Ball Corporation spun off its canning business as a new company called Alltrista Corporation.  The company operated as primarily a canning business until 2001.  Jarden, as we know it today, was essentially created in 2001, when Martin Franklin came to Alltrista.  Franklin had previously bought a minority stake in the company along with some partners.  Franklin was rebuffed when he wanted to buy the company, and demanded a couple of seats at the board's table.  Within three months, Franklin had the seat at the head of the table as chairman and CEO, while Ian Ashken became vice chairman and CFO. The duo moved headquarters from Indianapolis to Rye, New York.  The following year, the company’s name changed to Jarden - "Jar" for the Ball jars it makes and "den" for the use of its goods in the home.

In 2001, Alltrista had $305mn in sales.  Over the course of the next decade, Franklin focused on engaging in significant acquisition activity, which has driven sales to over $6.7bn in 2011.  In April 2002, Alltrista acquired Tilia International for $145 million, who owned the trademark to Foodsaver.  In November 2002, Jarden purchased Diamond Brands, which had been in Chapter 11 bankruptcy proceedings.  In September 2003, Jarden acquired Lehigh Consumer Products Corporation. In March 2004, Jarden acquired Loew-Cornell, a maker of brushes and other arts and crafts supplies. In June 2004, Jarden bought a 75% stake in the privately held U.S. Playing Card Company, and in October 2004 it purchased the remaining 25%. In January 2005, Jarden acquired American Household (formally known as Sunbeam), which was comprised of The Coleman Company, First Alert, and Sunbeam Products, Inc. (Sunbeam, Health o meter, Mr. Coffee, and Oster).  In July 2005, Jarden acquired The Holmes Group, maker of home and kitchen products (Crock-Pot, Seal-a-Meal), for approximately $420 million in cash and 6.2 million shares of Jarden common stock.  In September 2006, Jarden acquired PineMountain firelogs, candles, and firestarters from Conros Corporation. By August 2007, Jarden acquired K2 Sports for about $700mn, whose brands included K2, Marmot and Rawlings. Since 2007, the company has bought several other businesses such as MapaSpontex, Quickie Manufacturing, and Aero Products, for several hundred million dollars.

Below average business model:  Typically, we find many consumer companies to have attractive business models that have double-digit operating margins, pricing power, strong brands, sustainable/profitable growth, strong balance sheets, and attractive returns on capital. Jarden, has none of these attributes.  JAH operates in low growth categories in developed markets such as the US and Europe.  Sales growth for the majority of its categories are tied to GDP growth and in a bullish case scenario, typically grow low-single-digit.  Its brands are average at best, when considered relative to the majority of mid to large cap consumer companies’ brands.  This has ultimately lead Jarden to have weak pricing power and less bargaining with suppliers, resulting in a single digit margin business model.

While Jarden’s long-term competitive profile and growth outlook are relatively weak, in our view, Jarden’s financials are equally disappointing.  Despite massive acquisitions, which management has claimed to have led to sizeable synergies, the company still has single digit margins.  We’d note that the reported single digit margins exclude the on-going charges Jarden’s management backs out of their “operating” results.  Returns on capital are low.  As shown in Table 1 below, based on GAAP results, return on capital is roughly around 5% - below the company’s cost of capital.

The company’s balance sheet has high leverage for a consumer company, with total debt of $3.1bn before its recent Dutch tender (management stated the its leverage ratio rose to over 3x EBITDA post the tender).  Jarden’s balance sheet is primarily composed of intangible assets and goodwill. For perspective, the company ended 2011, with total assets $7bn, of which $3bn was made up of intangibles and goodwill from prior acquisitions.

True underlying free cash flow is mixed.  The company points investors to free cash flow defined as cash from operations less capex.  However, this is highly misleading, in the case of Jarden.  Due to its acquisitive nature, Jarden has continuous earn-out payments from prior acquisitions that do not flow through the income statement or cash flow from operations, but instead they show up in the cash flows from investing.  As an attempt to hide the true cash outlay from earn outs over the past few years, Jarden began combining earn outs with cash outlays from acquisitions.  We believe earn-outs exist despite managements’ unwillingness to provide details.  For example, in 3Q11, the company paid out $13mn in the cash flow line for acquisitions and earn-outs. Since there were no acquisitions that we are aware of, we presume it was for earn-outs.  In addition, the company is starving capex to generate cash flow to buyback stock to shrink the share count to meet earnings projections.  We believe this action could lead to challenges looking farther out.  For example, as shown in Table 2, capex as a percent of sales has continued to decline this year versus last and reinvestment, defined as capex/depreciation, continues to decline and is well below 1x.  JAH’s closest comparable peer, Newell Rubbermaid, has capex around 3.5% of sales. Also, for perspective, in 2011, sales were up $657mn, but capex was down $11mn. This is despite three acquisitions (MapaSpontex, Quickie Aero Products) consolidated into the financial statements in 2011.  Lastly, the company has averaged around $20mn per year in debt issuance costs over the past several years, which is reflected in cash from financings, allowing management to exclude the cost from its free cash flow calculation.

• A definition of “Jarden” EPS

First, the company has its own “operating” earnings, or as we like to call “Martin Franklin” earnings (MF EPS). The list of items that the company excludes from its GAAP results to derive “operating” results is laughable, and makes a mockery of standard GAAP accounting.  Below, is an excerpt from Jarden’s April 2011 proxy, on what Jarden’s compensation committee defines as “operating” or “adjusted” EPS.

…the Committee included in EPS adjustments for:

• reorganization and acquisition-related integration costs and other items;

• manufacturer's profit in inventory charged to cost of sales which is the purchase accounting fair value adjustment to inventory;

• impairment charges to goodwill and other intangible assets;

• mark-to-market net gain primarily associated with the Company's Euro denominated debt;

• amortization of acquired intangible assets;

• devaluation and hyperinflationary charges related to Venezuela; and

• a tax provision adjustment which reflects the normalization of the as adjusted results to the Company's 35.5% effective tax rate.

Table 3 below, highlights Jarden GAAP EPS vs MF EPS

• Jarden has very low quality of earnings.  The company has continued to take millions of dollars in accounting charges over the last several years. For perspective, over the past 4 years, Jarden has reported over $550mn in charges (over $13/share).
• Given management contends business is good, why all the restructuring and impairment charges?  Jarden management tells the investment community that business is good, growth is good, and the future is bright. We disagree. We cannot think of any company we have followed, that has taken around $380mn in impairment charges over the past four years, and continuously said business is just great.  

Management has continuously indicated to sell-side analysts and the investment community that charges are set to disappear. Below is commentary from Jarden’s 2Q10 earnings conference call.

 “We also recorded $3.5 million in related expenses associated with the transaction, which was netted against our fore-mentioned mark-to-market gains. We recorded an $18 million charge related to the write down of goodwill associated with our arts and crafts business brand within Branded Consumables. We do not anticipate any additional impairment charges in the second half of the year.” - Ian Ashken, Jarden Corporation -  CFO, 2Q10 earnings conference call

Since 2Q10, Jarden has reported over $50mn in asset impairment charges. Due to highly subjective accounting charges, it allows JAH to manage earnings, in our view. For perspective, Jarden has beaten “analyst” EPS expectations for over 15 quarters in a row.

Jarden is a serial acquirer:  We are typically highly skeptical of extremely acquisitive companies.  The combination of successfully integrating a business is easier said than done, in our view.  In addition, acquisitive management teams have considerable flexibility with financial results due to the moving parts within the financial statements.  Historically, growth begins to slow for a company, which in turn prompts an acquisition to boost earnings. The story keeps going, until it doesn’t.

• Acquisitions have helped mask weak underlying profitability.  Since 2006, Jarden has done 12 acquisitions for a value of over $1.6bn. For reference, Jarden’s current market capitalization is only $3.6bn. The “growth by acquisition story” has made it difficult to determine Jarden’s underlying organic growth profile combined with all the accounting related charges.  We believe acquisitions have likely masked what has been disappointing underlying profitability as witnessed by millions of dollars in impairment charges over the last few years.
• Jarden’s most recent acquisitions are increasingly suspect.  Jarden’s most recent acquisitions took place in December 2010. Jarden acquired Quickie Manufacturing, a manufacturer and supplier of conventional household cleaning tools in retail channels in North America, for an estimated $200mn. Quickie was previously owned by Centre Partners Management, which made their originally investment in 2004.  We estimate that Quickie had around $200mn in sales when Jarden purchased the company.  Buying a low growth, low margin North American consumer business for nearly 1x sales seems like a very rich price to us.  Centre Partners stated the “exit "generated about five-times the invested capital and around 30%" internal rate of return.”  We find the discrepancy between Centre Partners estimate for sales for Quickie of around $200mn versus Jarden’s estimate of $125mn (as disclosed on Jarden’s 4Q10 earnings conference call) as very curious.  Below is an excerpt from a January 2011, Deal Magazine interview by David Jaffe, of Centre Partners. Jaffe, who owned the Quickie business for over 5 years, stated he believed Quickie would generate more than $200mn in sales for Jarden in 2011.

Catalyst

• The market begins to recognize that the true economics of JAH business model are not reflected in adjusted earnings. 
• Integration of prior acquisitions becomes increasingly difficult
• A poorly calculated acquisition