Throwback Letter: Sachem Head Capital On Helen Of Troy (Feb. 2014)
Board of Directors
Helen of Troy Limited
One Helen of Troy Plaza
El Paso, TX 79912
February 4, 2014
To the Board of Directors of Helen of Troy Limited:
Sachem Head Capital Management is an investment partnership founded in July 2013 that manages approximately $1 Billion. We selectively and constructively engage management to explore ways to create shareholder value. As of February 4, 2014, Sachem Head owns 1,200,000 shares of Helen of Troy stock, which represent approximately 3.7% of shares outstanding.
Despite its high quality consumer brand portfolio, including leading names such as OXO, Pur, Sure and Pert, Helen of Troy's full value is not appreciated by public markets, particularly relative to what we believe are its most comparable peers (see Exhibit A). Given this underperformance, we believe it is critical that the Board undertake a full review of strategic alternatives to explore opportunities to maximize value for all shareholders. This should include a good-faith sale process with a sincere evaluation of any legitimate offers, rather than summary dismissals of inbound approaches, as we understand has occurred over the past two weeks with at least one potential strategic buyer.
We believe Helen of Troy shares are (and have been) materially undervalued for several reasons:
- Poor governance has led to a discounted valuation multiple. As an example, an employment contract for the now-former CEO entitled him to compensation of approximately $43 million in fiscal year 2015. We believe the existence of this contract furthered a pattern of inadequate Board oversight and internal-dealing, which results in a discounted valuation multiple being assigned to the business by public market investors.
- The recurring cash-generating power of the business is materially understated by GAAP accounting
- Depreciation & Amortization expense is greater than recurring capital needs. GAAP depreciation & amortization overstates ongoing capital requirements by approximately $18 million due to the inclusion of annual transaction-related amortization expense which does not represent a recurring cash expense of the business.
- Excessive CEO compensation artificially depresses earnings. If the prior CEO had not resigned, the off-market compensation would have resulted in an understatement of EBIT by approximately $40 million for fiscal year 2015.
As a result, we believe that projected fiscal year 2015 GAAP net income understates the true earnings power of the business by roughly 40% (see Exhibit B).
- The balance sheet is underutilized. Helen of Troy is meaningfully less levered than its most comparable peers and has not historically returned excess capital to shareholders (see Exhibit C).
- Helen of Troy has strategic assets that are highly attractive to potential acquirers. We believe that Helen of Troy's strong brands would be highly synergistic from both a revenue and cost perspective in the hands of a potential acquirer.
- Unique offshore corporate structure is a hidden asset. Helen of Troy is based in Bermuda, which provides the company with attractive jurisdictional attributes including a low tax rate. Its offshore domicile also makes the company a potential candidate for an "inversion" transaction. If Helen of Troy were to combine with a U.S.-based company in such a transaction (potentially through first reincorporating in Ireland, the U.K., or the Netherlands), its offshore status could provide meaningful economic value above and beyond the base operating value of its business.
To address these points, in November 2013, Sachem Head met with Helen of Troy's then-Chairman and CEO Gerald Rubin, current interim CEO Tom Benson, and then-Lead Director Gary Abromovitz to discuss our views on steps the company could take to maximize shareholder value. Topics discussed included a material capital return to shareholders via a leveraged recapitalization and share repurchase, the possibility of pursuing an inversion transaction with a U.S. company, and CEO succession. We suggested that the company retain financial and legal advisors to investigate these options. The meeting was productive and we were encouraged by the spirit of collaboration present in the room.
Over the course of the next several weeks, we had follow-up conversations with Gerald Rubin, who relayed to us that the company was willing to explore any and all alternatives to maximize shareholder value. Indeed, in early January we were pleased to learn that the Board had retained a leading investment bank as a financial advisor to explore a range of alternatives. Senior representatives of that bank assured us that their review would be broad and include (but not be limited to) our suggestions of a material capital return and a potential strategic transaction.
We were therefore surprised when the company issued a press release on January 16 stating that CEO Gerald Rubin had suddenly resigned and been replaced with an internally promoted new permanent CEO. We were further disappointed to learn, on our follow-up calls with the company and its financial advisor, that the scope of the strategic review would likely be limited to capital return, excluding a broader set of alternatives. Sachem Head believes that limiting the scope of a strategic review and appointing a permanent CEO in the midst of undertaking such a review are steps that are counter to the potential maximization of shareholder value.
While the market reacted positively to Mr. Rubin's departure, we believe that with the benefit of the full context, shareholders should share our entirely different view. Mr. Rubin was engaged and supportive of a broad strategic alternatives process, and we believe the circumstances surrounding his hasty resignation are, ironically, yet another example of inadequate Board stewardship. Furthermore, the hurried internal promotion of a division head to CEO without a comprehensive external search also seems imprudently rushed, myopic and not in shareholders' best interests.
Sachem Head has spoken to multiple potential strategic buyers, and has reason to believe that there are several strategic and financial buyers who may be interested in pursuing an acquisition of Helen of Troy. Sachem Head has specific knowledge of at least one inquiry to the Board in the past two weeks from a well-respected company with financial resources and a proven acquisition track record that was rebuffed. Further, Sachem Head has reason to believe that there may have been similar approaches from others. Despite the recent increase in Helen of Troy's share price, Sachem Head continues to believe that Helen of Troy is materially undervalued and that shares currently trade at a steep discount to the price a strategic buyer would be willing to pay for the company.
In light of the aforementioned facts Sachem Head believes the Board should immediately take the following actions:
- Run a full sale process and vet any legitimate offers for the company. We believe a sale of the business maximizes value for Helen of Troy shareholders (potentially in the context of an inversion transaction) and is the best outcome for the long-term health of Helen of Troy's underlying businesses.
- If a full and legitimate review of strategic alternatives fails to result in a sale of the company, we expect management to optimize Helen of Troy's balance sheet to maximize shareholder value. Helen of Troy is materially under-levered relative to peers Jarden and Spectrum Brands. A more appropriate capital structure would create substantial value for shareholders in light of the unique strategic attributes of the business.
We would remind the entire Board of Directors of your fiduciary duties that include maximizing value for shareholders, and expect you to act accordingly.
Sachem Head Capital Management