Pinkerton case

Discussion materials
Tuck Investment Banking Case Competition

TUCKEFELLER
MARIE-GABRIELLE BUI
SHIV KAK
JULIA SUN
FEDRICK WANG

Deal Team
A globally integrated deal team to advise CPP
Experienced deal team from Tuck

Marie-Gabrielle Bui

Shiv Kak

From Paris, France

3 years of investment banking experience in
France and Spain, specialized in industrials,
technology and natural resources
Graduated from ESSEC Business School
with a degree in Finance

From New York, NY

4 years of consulting experience with clients
in financial services, technology and
diversified industries
Graduated from Georgia Tech with a degree
in Electrical Engineering and Finance

Julia Sun

Fedrick Wang

From New York, NY

3 years of data analytics and advisory
services to financial services industry firms
Graduated from Duke University with a
degree in Economics and minor in Chinese

From Singapore
3 years of risk management experience in
sovereign wealth fund and 2 years of
financial advisory experience in industrials
Graduated from Dalian Maritime University
with a degree in Economics
2

Executive Summary
American Brands has indicated its intention to sell Pinkertons
Acquired five years before for $162m, Pinkertons specialty focus is no longer aligned with American Brands long-range
business strategy
American Brands is a $5bn consumer goods company with brand names such as Lucky Strike cigarettes, Jim
Beam bourbon, Master locks, and Titleist golf balls
American Brands had acquired Pinkertons in 1982 to expand the service side of its business and capitalize on
Pinkertons strong brand name

Pinkertons represents a unique pool of assets particularly attractive to industrial buyers

Strong and reputable brand in the Security Services Industry, positioning it in the premium market
Leading player in its industry, with a strong presence in the Eastern United States, the UK and Canada
Further opportunities for increased efficiency and profit growth by improving pricing strategy, eliminating common
overhead expenses and reallocating Pinkertons net working capital

Potential key issues to be taken into consideration to maximize certainty of a successful bid
Antitrust issues and government regulations given the size of the combined entity
Potentially lower customer loyalty given incorporation of new operating strategies (i.e. new pricing scheme from
low-price strategy to high-price strategy)
Potential lack of management depth given the quantum leap in size once the combination achieved, particularly
in the accounting department (large geographical footprint)
Weak market conditions impacting the acquisition conditions as well as the firms performance and profitability in
the near future
Potential liquidity issues given the cash flows needed to service the debt after the acquisition

Contents

Section

Situation Overview
Preliminary Valuation Considerations
Financing
Recommendation
Appendix Details on preliminary valuation considerations

1
2
3
4

Key Investment Highlights

Pinkertons acquisition: a quantum leap for CPP
Market leader
in the security
industry

Strong, recognized
brand name

Premium
positioning

Significant cost
efficiency

Combination of two leading companies, creating a strong alternative to the current market
leader
Combined sales of c. $650m with 275 offices spanning the US (east and west coasts),
Canada and the UK

Strong recognition of the Pinkertons name creating product differentiation

Customer loyalty likely to be high
Significant part of business likely to be recurring

Strong brand name justifying premium positioning

Slightly lower expected revenues offset by increased profitability both at gross margin
(+0.25% in 1989e to +0.75% from 1991e onwards) and operating expenses levels (0.81%
decrease in yearly Opex as a percentage of sales from 1990e onwards)
Exit from the commoditized, low margin security business

Consolidation leading to fixed cost reduction (e.g. overhead)

Increased profitability given premium positioning
Best practice implementation at working capital (3.30% decrease to 6.2% per year) and
PP&E spending levels (Pinkertons requirements lowered to 4%), lowering overall capital
requirements
5

A snapshot of Pinkertons and CPP

Within the security guard industry from 1850 to 1987
Allan Pinkerton
dies, leaving firm
in family control

Firm run by
Pinkerton family
till fourth
generation dies

Pinkerton gains
fame for pursuing
outlaws

1850

1860

Leading security
guard firm, with
sales >$400m,
150 offices in the
US, Canada and
the UK

Bought by
American Brands
for $162m

1884

1963 1967

1975

Pinkerton
Key Milestones

Allan Pinkerton
starts Pinkertons
Detective Agency

1982 1987

Industry Overview
Brings on three
external directors

Tom Wathen buys

CPP with 18
employees and
$163k in sales

Grows to 20,000
employees with
sales of $250m
and 120 offices in
the US and
Canada

CPP
Key Milestones

Security guards were rented from specialist suppliers gaining

operating flexibility by contracting security needs
Late 1987, $10bn industry, growing at 6% a year; Mature
fragmented, and price-competitive
Trend towards consolidation smaller, local companies getting
bought out
Market Players: CPP (private), Pinkerton, Baker Industries
(conglomerate), Wackenhut (public)
Weak market conditions following dramatic dislocation of the
stock market in October 1987

An Attractive Combined Entity

With limited overlapping in geographical footprint

Geographical footprints of CPP and Pinkertons

Countries where both are present

CPP main US concentration
Pinkertons main US concentration

Note: Working capital defined as Current assets - current liabilities

Key Issues and Mitigants

Potential issues to be addressed to maximize bid success
Key Issues

Mitigants

Antitrust Issues

Potential antitrust issues given

combined market share and
concentration of offices, especially in
the US

Two other large players with

significant market shares
Combined entity unlikely to have
pricing power

Customer base
loyalty

Change in pricing policy resulting in

potential need to renew customer
base

Likely increased loyalty from new

customers given premium positioning

Capacity of CPP to manage a $650m

firm, given entrepreneurial spirit of
CPPs management, especially in the
accounting department

Possibility to leverage Pinkertons

existing management team
Recourse to external hiring

Current
weakness of
market conditions

Weak market conditions following

dramatic dislocation of stock market
Increased difficulty to close a
transaction

Pinkertons valuation likely to be

depressed

Potential
financing issues

Significant increase in debt burden

following Pinkertons acquisition (vs.
virtually no debt either at Pinkertons
or CPP level before)

Increased cash flow generation given

cost synergies for the combined entity,
enabling higher debt service

Potential
management
changes

Contents

Section

Situation Overview
Preliminary Valuation Considerations
Financing
Recommendation
Appendix Details on preliminary valuation considerations

1
2
3
4

Preliminary Valuation Methodology

Trading
multiple
analysis

Transaction
multiple
analysis

Intrinsic
valuation
analysis

Trading multiple analysis restricted to Wackenhut Corporation, the only

available publicly listed comparable company
Valuation method limited to EV/Sales multiple due to lack of information at
profitability level for Wackenhut

Transaction multiple analysis restricted to the 1982 acquisition of Pinkertons

by American Brands
Forward transaction multiple based on Pinkertons 1983 financials, given lack
of information on 1982 financials

Preliminary DCF based on estimates of the think tank

- WACC: 13.2%
- Three scenarios engineered to cover the range of possibilities
- Valuation computed using standalone valuation for Pinkertons plus the
value of synergies generated
Business Plan to be refined with management team, particularly regarding
potential financial improvement measures both at Pinkertons and CCP level

10

Intrinsic Valuation Analysis

Scenario Overview
Upside case

Negative revenue synergies

Improvement for Pinkertons at
gross profit and operating profit
levels
Working capital and PP&E
requirement improvement
Increase in CPPs profitability

Base case

Negative revenue synergies

Improvement for Pinkertons at
gross profit and operating profit
levels
No cash flow items
improvement
No profitability increase for CPP

Downside case

Negative revenue synergies

No improvement for Pinkertons
at gross profit or operating profit
level
No cash flow items
improvement
No profitability increase for CPP

Significant upside to base case business plan unlocking further potential value
11

Preliminary Valuation Summary

Methodology

$m

Financials from Base case

scenario 1988e sales:
$367.5m, EBIT: $9.2m

Trading multiple
- Limited to EV/Sales multiple
- Upper border: multiple
including CPPs cost
synergies at EBIT level

Transaction multiple
- Limited to EV/EBIT multiple
- Upper border: multiple
including CPPs cost
synergies at EBIT level

DCF
- 13.2% WACC
- Ranges determined using
sensitivities (cf. appendix)
- Base case mid-point:
$83.7m

$[80-100]m valuation range for Pinkertons based on three valuation methods

Valuation incorporates part of the upside, but significant potential value further to be unlocked
12

Contents

Section

Situation Overview
Preliminary Valuation Considerations
Financing
Recommendation
Appendix Details on preliminary valuation considerations

1
2
3
4

Financing Strategy
Evaluation of Options
OPTION 1
DEBT + EQUITY

OPTION 2
DEBT

DEBT
$75M in debt at 11.5% p.a. for seven years
No amortization, and principal due at maturity
EQUITY
$25M in exchange for 45% of equity in combined entity

DEBT
$100M in debt at 13.5% p.a. for seven years
Amortized at a rate of $5M a year for 6 years, and
remaining principal due at maturity

ABILITY TO SERVICE DEBT

Provides comfortable excess cash flow to service debt
through duration of holding, including repaying principal

ABILITY TO SERVICE DEBT

Does not provide enough excess cash flow to service debt
especially repayment of principal in year 7

Option 2 does not allow CPP to service debt with a comfortable cushion of excess cash flow,
especially given that the entire principal is due in year 7 (~$70M)
14

Financing Strategy
Evaluation of Options
EQUITY VALUATION

Option 1 allows for CPP to both service debt comfortably as well as receive a fair value for its 45%
equity stake in the combined entity
15

Contents

Section

Situation Overview
Preliminary Valuation Considerations
Financing
Recommendation
Appendix Details on preliminary valuation considerations

1
2
3
4

A two-tiered bid through earn-out mechanism

Increasing the existing bid and tying it to future company results

Potential negative factors highlighting the need for conservatism

A $100m tag price at the highest end of the valuation range and significant risks:
Capacity to realize the business plan (e.g. return to strong profitability as soon as year 1)
Capacity to capture upside beyond the base case business plan
External factors potentially weighing against the operation (e.g. economic environment, potential antitrust concerns)
Liquidity issues associated with additional debt burden to acquire Pinkertons
Negotiation environment likely to be unfavorable
Public knowledge of strong interest of CPP for Pinkertons
First bid rejected, CPP re-contacted after two weeks
Potential tactic from the Investment Bank to increase competitive tension through secondary buyer to
motivate primary buyer to move faster

Recommendation: Bid at $92m + earn-out tied to profitability

$92m represents a 7% increase on previous bid; earn-out then profitability-linked
Earn-out could be $10m if Pinkertons 1988e EBIT reaches base case, $15m if it reaches high case and
nil below base case
Advantages of this solution:
For American Brands: price higher than $100m if results better than business plan
For CPP: ensure Pinkertons short term return to profitability and ability to implement change in pricing
strategy
Downside of this solution: Potential rejection risk given immediate offer below $100m
17

Contents

Section

Situation Overview
Preliminary Valuation Considerations
Financing
Recommendation
Appendix Details on preliminary valuation considerations

1
2
3
4

Detailed cash flow projections

Base case

19

Detailed cash flow projections

High case

20

Detailed cash flow projections

Low case

21

Cash flow projections

Cost of capital

Cost of capital calculation

2
1

2
3
4

Equity beta computation

Based on Wackenhut Corporation beta in
1987: 0.89
Wackenhut Corp only traded pure
player
Beta unlevered using Wackenhuts 1987
data
Overall equity beta of 0.81

Cost of capital sensitivities

30-year Treasury bond rate in 1987

BBB corporate bond yields in 1987

Illiquidity premium given size of the firms

and the uncertainty of the markets

22

CPP cost synergies at EBIT level

Cost synergies unlocked through combination Pinkertons + CPP

Methodology

Cost synergies at CPPs EBIT level valued on a standalone basis

Additional streams of cash estimated by the think tank up to 1992e, then growing at 5% p.a.
WACC: 13.2%
Terminal growth rate: 0%
Tax rate: 34%
Overall valuation of CPPs cost synergies at $16.2m

CPPs after tax cost synergies evolution

23

Cash flow projections

Sensitivity analyses

Scenario parameters

Base case

Upside elements
EBIT increase at CPP level, valued at $16.2m
Working capital improvement, valued at $11.2m
PP&E requirement improvement, valued at $1.6m
Downside elements
Operating expenses savings, valued at $15.8m
Gross profit margin improvement, valued at $12.4m

High case

Low case

24

Extrinsic preliminary valuation methods

Detailed overview

Trading multiple

Transaction multiple

Based on Wackenhut Corporation, a guard

and investigative services provider
Only listed comparable
Based on 1987 financials

Limited relevance of this method given size of

sample
No data on Pinkertons net income
EV/Sales likely to be the relevant metric

Based on the 1982 acquisition of Pinkertons

by American Brands
Only transaction available
Based on 1983 financials

Limited relevance of this method given size of

sample
Significant deterioration of the profitability profile
of Pinkertons since 1982, despite steadily
growing topline
EV/EBIT likely to be the relevant metric
25

Financing Strategy Evaluation

Upside Debt Servicing

Base Case Debt Servicing

Financing Strategy Evaluation

Upside Debt Servicing

Base Case Debt Servicing