Avon Rubber — Reinvesting milk money in head protection

Avon Technologies (LSE: AVON)

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Avon Rubber — Reinvesting milk money in head protection

When the disposal of Avon’s dairy operations was announced, we assumed the proceeds would be reinvested in higher return businesses. The proposed $130m acquisition of the helmet systems activities of Team Wendy is a meaningful and strategically aligned deal, with higher returns and good organic growth prospects. Both deals should complete in Q1 FY21 and taken together should be EPS enhancing, improve value creation and leave net cash balances for further reinvestment.

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Written by

Avon Rubber

Reinvesting milk money in head protection

Proposed US acquisition

Aerospace & defence

10 September 2020

Price

3,950p

Market cap

£1.21bn

US$1.30/£

Net debt* (£m) at 31 March 2020
*Excluding leases

45.8

Shares in issue

30.5m

Free float

98.8%

Code

AVON

Primary exchange

LSE

Secondary exchange

N/A

Share price performance

%

1m

3m

12m

Abs

14.2

32.8

134.3

Rel (local)

14.4

38.7

177.4

52-week high/low

3,950p

1,620p

Business description

Avon Rubber designs, develops and manufactures products in the protection (77% of H120 sales) and dairy (23%) sectors. Its major contracts are with national security organisations such as the US DOD. Over 75% of H120 sales were from the US.

Next events

FY20 results

18 November 2020

Analyst

Andy Chambers

+44 (0)20 3681 2525

Avon Rubber is a research client of Edison Investment Research Limited

When the disposal of Avon’s dairy operations was announced, we assumed the proceeds would be reinvested in higher return businesses. The proposed $130m acquisition of the helmet systems activities of Team Wendy is a meaningful and strategically aligned deal, with higher returns and good organic growth prospects. Both deals should complete in Q1 FY21 and taken together should be EPS enhancing, improve value creation and leave net cash balances for further reinvestment.

Year end

Revenue (£m)

PBT*
(£m)

EPS*
(p)

DPS
(p)

P/E
(x)

Yield
(%)

09/18

165.5

27.2

76.6

16.0

51.6

0.4

09/19

179.3

31.4

90.9

20.8

43.5

0.5

09/20e

233.0

35.4

93.1

27.1

42.4

0.7

09/21e

288.4

49.2

129.5

35.2

30.5

0.9

Note: *PBT and EPS are normalised, excluding amortisation of acquired intangibles, exceptional items and share-based payments.

Proposed Team Wendy acquisition

Avon Rubber has announced the proposed acquisition of Team Wendy in the US for c $130m plus $8m of deal costs. Based in Cleveland, Ohio, it represents an expansion of Avon Protection’s newest Helmets and Armor business. Team Wendy is a family owned business that manufactures and supplies military and first-responder helmets and head protection systems, and is a specialist in helmet liners and retention systems. The purchase represents a reinvestment of a large proportion of the net £140m proceeds (after tax and pension payments) from the divestment of its dairy operations milkrite | InterPuls. In the year to December 2019 Team Wendy had sales of $44.2m, generating an EBITDA of $13.4m, which represents an EBITDA margin of 30.3%. The deal implies a 9.7x EV/EBITDA multiple, below that for the disposal of dairy and Avon Rubber’s own multiple.

Deal should enhance returns

Team Wendy’s operating profit of c $12m in 2019 replaces an expected dairy profit of c £8.5m in FY21 with a higher ROCE. The two deals should be modestly EPS enhancing with enhanced value creation and Avon retaining net cash for further reinvestment. Both deals are expected to complete in Q1 FY21, so Q420, with the disposal process said to be on track. If the Team Wendy deal completes before the dairy sale, the consideration will be financed by a new three-year $200m RCF facility. Following completion of the transaction, the new RCF should be available to support Avon Rubber’s medium-term growth objectives, including potential further M&A in line with the growth strategy. There is no change to FY20 guidance or our estimates pending completion of both the dairy divestment and the Team Wendy purchase. From FY21 Avon Rubber will change its reporting currency to US dollars.

Valuation: Rating reflects strategic development

Avon Rubber already achieves strong cash flows and is proving adept at recycling capital into businesses with higher returns and organic growth prospects. The market has responded positively to this as reflected in the FY21e P/E of 30.5x.

Strategically aligned reinvestment of dairy proceeds

Team Wendy helmet systems

Team Wendy is a family owned business based in Cleveland, Ohio, employing 130 people and supplying head protection systems. It was founded in 1997 by Dan T Moore as a memorial to his daughter Wendy, who tragically died as a result of a traumatic brain injury sustained in a skiing accident. Producing its first helmet in 1998, its mission has been the pursuit of improving head protection for anyone wearing a helmet and risking their lives every day.

The business has grown over the last 20 years to become a global company, supplying military and first-responder customers in over 50 countries worldwide. The initial focus on skiing helmets has transitioned to the production of helmets systems for both ballistic and non-ballistic head protection systems. Its specialised helmet liner and retention products are specifically mandated on several US military helmets, some of which are Avon Protection products. Around 61% of 2019 sales came from US customers including the DOD, Department of Homeland Security, Department of Justice and National Industries for the Blind/AbilityOne Program.

Overseas customers thus accounted for around 39% of revenues in 2019. It has a multiyear supply contract with the Australian Defence Force under the current programme of record, with over 40,000 ballistic helmets supplied to date. It also supplies military, first responder and search and rescue agencies in Europe, Asia, Latin America and the Middle East.

Revenue growth has been strong in recent years and has continued in the calendar year to date up until the end of July 2020. In the year to December 2019 Team Wendy had sales of $44.2m generating an EBITDA of $13.4m, an EBITDA margin of 30.3% with an operating profit of c $12m. The deal represents a 9.7x EV/EBITDA multiple below that for the disposal of dairy for a business with higher margins and sustainable, less cyclical growth prospects.

Exhibit 1: Team Wendy historic financials

Year to December ($m)

2017

2018

2019

CAGR (%)

Revenue

27.2

29.4

44.2

27.5%

EBITDA

10.5

8.2

13.4

13.0%

Margin

38.6%

27.9%

30.3%

Operating profit

9.6

7.4

12.1

12.3%

Net assets

29.1

35.9

47.5

Source: Avon Rubber

Dairy disposal progressing on track

Management says the disposal process for milkrite | InterPuls is proceeding as planned, as it works through the regulatory approval processes. Completion of the £180m sale is also expected in Q1 FY21. Net proceeds from the deal available for reinvestment should be around £140m on completion, after equal payments of £20m for tax and deal costs as well as pension liabilities.

Both deals are expected to complete in Q1 FY21, that is, Q420. If the Team Wendy deal completes before the dairy sale, the consideration will be financed by a new three-year $200m RCF facility. Following completion of the transaction the new RCF should be available to support Avon Rubber’s medium-term growth objectives, including potential further M&A in line with the growth strategy. The facility has two one-year extension options.

Value creation and growth enhanced by reinvestment

As usual, we do not adjust our estimates until deals complete. With management guidance maintained for FY20 we are not adjusting our current estimates for FY20 or FY21.

The proposed acquisition will require shareholder approval as well as both HSR (Hart Scott Rodino) and CFIUS (Committee on Foreign Investment in the United States) regulatory approvals in the US. The deal is in line with the company’s strategic growth goal of enhancing organic development through value creating M&A and adds new technology development programmes. The purchase further strengthens the product portfolio of Avon Protection’s newest business, Helmets and Armor, which was formed following the acquisition of the Ceradyne ballistic protection systems activity from 3M for up to $116m in January 2020. Avon Protection will be the sole activity of Avon Rubber following the dairy disposal.

With a low finance cost, the deal will be immediately earnings enhancing and should more than offset the dairy disposal dilution in a full year, despite recycling just part of the proceeds.

Including deal costs, Team Wendy would need to generate a NOPAT of $10.5m to create value against our assumed group WACC for Avon Rubber of 7.5%. Assuming a 25% tax rate we would expect this to be achieved in its first full year after acquisition, so FY22.

For the $130m (c £100m) being reinvested from the disposal proceeds, the return on capital is higher than for the dairy business, with a further £35m still available for reinvestment after Team Wendy deal costs. We also anticipate higher earnings growth being delivered by Team Wendy than would be achieved by dairy, further supporting the business case for the sale and reinvestment.

Although a pipeline of opportunities remains, Avon’s management has indicated that investors should expect a period of consolidation following 18 months of significant M&A activity.

Trading update

Avon has also issued a trading update that we assume replaces the pre-close update expected later this month. Both Avon Protection and milkrite | InterPuls have continued to trade in line with management expectations and full-year expectations are maintained. There have been only modest disruptions due to the COVID-19 pandemic and demand has remained robust. FY20 cash conversion is expected to return to normal levels after receiving a delayed payment relating to the rest of world mask contract mentioned at the half year.

Avon is also going to report in US dollars from FY21 as around 90% of sales are dollar denominated, as is 100% of debt. It should better reflect the organic development of the group, less encumbered by significant translation effects. The dividend will be determined in dollars and paid in sterling using exchange rates immediately prior to payment.

Exhibit 2: Financial summary

£m

2018

2019

2020e

2021e

Year end 30 September

IFRS

IFRS

IFRS

IFRS

PROFIT & LOSS

Revenue

 

 

165.5

179.3

233.0

288.4

Cost of Sales

(99.9)

(106.8)

(138.8)

(171.8)

Gross Profit

65.6

72.5

94.2

116.6

EBITDA

 

 

35.3

41.3

50.2

65.1

Operating Profit (before amort. and except.)

 

 

30.4

35.9

41.7

55.4

Intangible Amortisation

(3.1)

(3.9)

(4.4)

(4.9)

Operating profit (company definition)

27.3

32.0

37.3

50.4

Exceptionals

(5.6)

(17.7)

(8.0)

(6.3)

Other

(0.1)

(0.7)

(1.2)

(1.1)

Operating Profit

21.6

13.6

28.1

43.1

Net Interest

0.0

0.1

(0.7)

(0.2)

Profit Before Tax (norm)

 

 

27.2

31.4

35.4

49.2

Profit Before Tax (FRS 3)

 

 

21.6

13.7

27.4

42.9

Tax

(1.8)

0.6

(5.2)

(8.2)

Profit After Tax (norm)

23.5

28.0

28.6

39.9

Profit After Tax (FRS 3)

19.8

14.3

22.2

34.8

Average Number of Shares Outstanding (m)

30.5

30.5

30.5

30.5

EPS - normalised (p)

 

 

77.1

91.7

93.8

130.6

EPS - normalised & fully diluted (p)

 

 

76.6

90.9

93.1

129.5

EPS - (IFRS) (p)

 

 

64.9

46.9

72.6

113.9

Dividend per share (p)

16.0

20.8

27.1

35.2

Gross Margin (%)

39.6

40.4

40.4

40.4

EBITDA Margin (%)

21.3

23.0

21.6

22.6

Operating Margin (before GW and except.) (%)

18.4

20.0

17.9

19.2

BALANCE SHEET

Fixed Assets

 

 

64.1

64.4

148.6

144.2

Intangible Assets

41.5

35.3

59.2

56.0

Tangible Assets

22.6

21.4

72.8

73.9

Right of Use Asset

7.7

16.6

14.4

Investments

0.0

0.0

0.0

0.0

Current Assets

 

 

102.0

117.5

84.7

106.1

Stocks

23.0

20.7

27.2

34.0

Debtors

24.2

35.4

34.1

42.2

Cash

46.6

48.4

10.4

17.0

Other

8.2

13.0

13.0

13.0

Current Liabilities

 

 

(41.4)

(35.4)

(65.0)

(61.3)

Creditors

(41.3)

(35.3)

(45.8)

(56.5)

Short term borrowings

(0.1)

(0.1)

(19.2)

(4.8)

Long Term Liabilities

 

 

(39.9)

(62.0)

(70.8)

(68.6)

Long term borrowings

0.0

0.0

0.0

0.0

Lease Liabilities

(11.3)

(20.2)

(18.0)

Other long-term liabilities

(39.9)

(50.7)

(50.6)

(50.6)

Net Assets

 

 

84.8

84.5

97.4

120.4

CASH FLOW

Operating Cash Flow

 

 

33.4

15.2

48.0

57.6

Net Interest

(0.2)

0.0

(0.7)

(0.2)

Tax

(1.8)

0.6

(5.2)

(8.2)

Capex

(8.9)

(7.9)

(18.7)

(15.8)

Acquisitions/disposals

5.1

0.0

(72.4)

(2.4)

Financing

(1.1)

(1.3)

(1.0)

(1.0)

Dividends

(4.1)

(5.4)

(7.1)

(9.1)

Other

(0.6)

0.6

0.0

0.0

Net Cash Flow

21.8

1.8

(57.0)

20.9

Opening net debt/(cash)

 

 

(24.7)

(46.5)

(48.3)

8.7

HP finance leases initiated

0.0

0.0

0.0

0.0

Other

0.0

0.0

0.0

0.0

Closing net debt/(cash)

 

 

(46.5)

(48.3)

8.7

(12.1)

Total net financial liabilities

 

 

(46.5)

(37.0)

28.9

5.9

Source: Company reports, Edison Investment Research


General disclaimer and copyright

This report has been commissioned by Avon Rubber and prepared and issued by Edison, in consideration of a fee payable by Avon Rubber. Edison Investment Research standard fees are £49,500 pa for the production and broad dissemination of a detailed note (Outlook) following by regular (typically quarterly) update notes. Fees are paid upfront in cash without recourse. Edison may seek additional fees for the provision of roadshows and related IR services for the client but does not get remunerated for any investment banking services. We never take payment in stock, options or warrants for any of our services.

Accuracy of content: All information used in the publication of this report has been compiled from publicly available sources that are believed to be reliable, however we do not guarantee the accuracy or completeness of this report and have not sought for this information to be independently verified. Opinions contained in this report represent those of the research department of Edison at the time of publication. Forward-looking information or statements in this report contain information that is based on assumptions, forecasts of future results, estimates of amounts not yet determinable, and therefore involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of their subject matter to be materially different from current expectations.

Exclusion of Liability: To the fullest extent allowed by law, Edison shall not be liable for any direct, indirect or consequential losses, loss of profits, damages, costs or expenses incurred or suffered by you arising out or in connection with the access to, use of or reliance on any information contained on this note.

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New Zealand

The research in this document is intended for New Zealand resident professional financial advisers or brokers (for use in their roles as financial advisers or brokers) and habitual investors who are “wholesale clients” for the purpose of the Financial Advisers Act 2008 (FAA) (as described in sections 5(c) (1)(a), (b) and (c) of the FAA). This is not a solicitation or inducement to buy, sell, subscribe, or underwrite any securities mentioned or in the topic of this document. For the purpose of the FAA, the content of this report is of a general nature, is intended as a source of general information only and is not intended to constitute a recommendation or opinion in relation to acquiring or disposing (including refraining from acquiring or disposing) of securities. The distribution of this document is not a “personalised service” and, to the extent that it contains any financial advice, is intended only as a “class service” provided by Edison within the meaning of the FAA (i.e. without taking into account the particular financial situation or goals of any person). As such, it should not be relied upon in making an investment decision.

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Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

1185 Avenue of the Americas

3rd Floor, New York, NY 10036

United States of America

Sydney +61 (0)2 8249 8342

Level 4, Office 1205

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NSW 2000, Australia

General disclaimer and copyright

This report has been commissioned by Avon Rubber and prepared and issued by Edison, in consideration of a fee payable by Avon Rubber. Edison Investment Research standard fees are £49,500 pa for the production and broad dissemination of a detailed note (Outlook) following by regular (typically quarterly) update notes. Fees are paid upfront in cash without recourse. Edison may seek additional fees for the provision of roadshows and related IR services for the client but does not get remunerated for any investment banking services. We never take payment in stock, options or warrants for any of our services.

Accuracy of content: All information used in the publication of this report has been compiled from publicly available sources that are believed to be reliable, however we do not guarantee the accuracy or completeness of this report and have not sought for this information to be independently verified. Opinions contained in this report represent those of the research department of Edison at the time of publication. Forward-looking information or statements in this report contain information that is based on assumptions, forecasts of future results, estimates of amounts not yet determinable, and therefore involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of their subject matter to be materially different from current expectations.

Exclusion of Liability: To the fullest extent allowed by law, Edison shall not be liable for any direct, indirect or consequential losses, loss of profits, damages, costs or expenses incurred or suffered by you arising out or in connection with the access to, use of or reliance on any information contained on this note.

No personalised advice: The information that we provide should not be construed in any manner whatsoever as, personalised advice. Also, the information provided by us should not be construed by any subscriber or prospective subscriber as Edison’s solicitation to effect, or attempt to effect, any transaction in a security. The securities described in the report may not be eligible for sale in all jurisdictions or to certain categories of investors.

Investment in securities mentioned: Edison has a restrictive policy relating to personal dealing and conflicts of interest. Edison Group does not conduct any investment business and, accordingly, does not itself hold any positions in the securities mentioned in this report. However, the respective directors, officers, employees and contractors of Edison may have a position in any or related securities mentioned in this report, subject to Edison's policies on personal dealing and conflicts of interest.

Copyright: Copyright 2020 Edison Investment Research Limited (Edison).

Australia

Edison Investment Research Pty Ltd (Edison AU) is the Australian subsidiary of Edison. Edison AU is a Corporate Authorised Representative (1252501) of Crown Wealth Group Pty Ltd who holds an Australian Financial Services Licence (Number: 494274). This research is issued in Australia by Edison AU and any access to it, is intended only for "wholesale clients" within the meaning of the Corporations Act 2001 of Australia. Any advice given by Edison AU is general advice only and does not take into account your personal circumstances, needs or objectives. You should, before acting on this advice, consider the appropriateness of the advice, having regard to your objectives, financial situation and needs. If our advice relates to the acquisition, or possible acquisition, of a particular financial product you should read any relevant Product Disclosure Statement or like instrument.

New Zealand

The research in this document is intended for New Zealand resident professional financial advisers or brokers (for use in their roles as financial advisers or brokers) and habitual investors who are “wholesale clients” for the purpose of the Financial Advisers Act 2008 (FAA) (as described in sections 5(c) (1)(a), (b) and (c) of the FAA). This is not a solicitation or inducement to buy, sell, subscribe, or underwrite any securities mentioned or in the topic of this document. For the purpose of the FAA, the content of this report is of a general nature, is intended as a source of general information only and is not intended to constitute a recommendation or opinion in relation to acquiring or disposing (including refraining from acquiring or disposing) of securities. The distribution of this document is not a “personalised service” and, to the extent that it contains any financial advice, is intended only as a “class service” provided by Edison within the meaning of the FAA (i.e. without taking into account the particular financial situation or goals of any person). As such, it should not be relied upon in making an investment decision.

United Kingdom

This document is prepared and provided by Edison for information purposes only and should not be construed as an offer or solicitation for investment in any securities mentioned or in the topic of this document. A marketing communication under FCA Rules, this document has not been prepared in accordance with the legal requirements designed to promote the independence of investment research and is not subject to any prohibition on dealing ahead of the dissemination of investment research.

This Communication is being distributed in the United Kingdom and is directed only at (i) persons having professional experience in matters relating to investments, i.e. investment professionals within the meaning of Article 19(5) of the Financial Services and Markets Act 2000 (Financial Promotion) Order 2005, as amended (the "FPO") (ii) high net-worth companies, unincorporated associations or other bodies within the meaning of Article 49 of the FPO and (iii) persons to whom it is otherwise lawful to distribute it. The investment or investment activity to which this document relates is available only to such persons. It is not intended that this document be distributed or passed on, directly or indirectly, to any other class of persons and in any event and under no circumstances should persons of any other description rely on or act upon the contents of this document.

This Communication is being supplied to you solely for your information and may not be reproduced by, further distributed to or published in whole or in part by, any other person.

United States

Edison relies upon the "publishers' exclusion" from the definition of investment adviser under Section 202(a)(11) of the Investment Advisers Act of 1940 and corresponding state securities laws. This report is a bona fide publication of general and regular circulation offering impersonal investment-related advice, not tailored to a specific investment portfolio or the needs of current and/or prospective subscribers. As such, Edison does not offer or provide personal advice and the research provided is for informational purposes only. No mention of a particular security in this report constitutes a recommendation to buy, sell or hold that or any security, or that any particular security, portfolio of securities, transaction or investment strategy is suitable for any specific person.

Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

1185 Avenue of the Americas

3rd Floor, New York, NY 10036

United States of America

Sydney +61 (0)2 8249 8342

Level 4, Office 1205

95 Pitt Street, Sydney

NSW 2000, Australia

Frankfurt +49 (0)69 78 8076 960

Schumannstrasse 34b

60325 Frankfurt

Germany

London +44 (0)20 3077 5700

280 High Holborn

London, WC1V 7EE

United Kingdom

New York +1 646 653 7026

1185 Avenue of the Americas

3rd Floor, New York, NY 10036

United States of America

Sydney +61 (0)2 8249 8342

Level 4, Office 1205

95 Pitt Street, Sydney

NSW 2000, Australia

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