Letter: ADW Capital Seeks Review of Outerwall (AKA CoinStar)
By: SumZero Staff | Published: August 08, 2013 | Be the First to Comment
ADW Capital Partners, L.P. Seeks Company Review of Capital Allocation to Maximize
New York, New York - 8/5/2013
Dear Members of the Board of Directors,
As a shareholder of Outerwall, Inc. (Nasdaq: OUTR) (the "Company"), we are very concerned about the Company's current direction. While the Company has seen EBITDA from its Redbox unit grow from roughly $50 mm in 2008 to over $400 mm expected in 2013, the Company's market capitalization has yet to reflect this growth. We believe that the Company's share appreciation has been stunted by investor concern over the long term viability of Redbox, management's inability to manage a mature business and effectively deploy capital beyond Redbox, along with the workings of an entrenched board that has very little invested in the Company. In order to reverse this situation, and create value for its shareholders, we strongly urge the Company to reduce its wasteful spending and return excess capital to its shareholders, most of whom have seen very little return from their investment over the past few years. In particular, we urge that the following actions be taken immediately:
Capital Allocation Initiatives:
1. Optimize and Harvest Cash Flows at Redbox: Redbox is a mature asset and should be treated as such. While expansion in Canada and in the US may result in positive NPV projects, there are much higher returns available for the Company's capital.
2. Eliminate New Ventures Segment: Supplementing the Company's renewed focus on optimizing and harvesting Redbox, we think it is in the Company's best interest to shut down its "New Ventures" segment. The Company will spend between $30 and $40 mm dollars in FY 2013 on unproven concepts that have produced little to no revenue to date and we are highly skeptical that these concepts will produce meaningul revenue
What the Company does have experience doing is taking a proven concept - a $100 mm + revenue business and bringing it to the masses. We believe the Company has this opportunity in ecoATM and should focus its time, energy, and capital on this proven concept with very attractive return-on-investment characteristics.
3. Restructure / Eliminate Redbox Instant Joint Venture with Verizon: While we admire the Company's ambition to become a tier three player in the streaming video-ondemand space, we also recognize its challenges. With fierce competitors like Amazon, Hulu, Netflix, and iTunes, we question Redbox's ability to go up against established players with substantial libraries and even more substantial financial resources. The capital commitments that the Company needs to sustain to keep its ownership stake in "Instant" are rising quickly and there are much more "certain" places the Company can deploy the capital in the meantime.
4. The Company is substantially under-levered: While we believe that the longevity of Redbox is far greater than the "market" expects, it faces long-term challenges. However, if Redbox experiences an accelerated decline, it would create an even greater sense of urgency to reduce capital expenditures and begin returning capital to shareholders as quickly as possible. We believe the Company has an extraordinary opportunity to borrow money at record low rates today. Given the Company's modest maintenance capital requirements going forward, we believe the Company could increase its leverage profile to roughly a modest 1.2x 2015 Net Debt / EBITDA and still have substantial cash flow to fund shareholder distributions and the growth of ecoATM.
5. Dramatically Increase Share Repurchases through an Accelerated-Stock-Repurchase Program or Tender Offer: We acknowledge that the Company has periodically returned capital to shareholders through various share repurchase programs. Unfortunately, the Company has been limited in its scope and scale of these initiatives due to the expanding capital requirements of Redbox and its various "New Ventures." If the Company were to pare its spending on Redbox and eliminate its new ventures spending, we believe the Company could generate more than enough free cash flow to service its debt, continue to grow ecoATM, and reward its patient shareholders today with a very accretive transaction.
We have used the mid-point of the Company's 2013 EBITDA projections and its year ending 2013 expected cash balance pro-forma for the ecoATM transaction as our starting points. We then added our expected contribution from an accelerated ecoATM rollout in 2014 and 2015, while eliminating the effect of the Company's new ventures segment. Our model also assumes that the Company repurchases 30 percent of its diluted shares outstanding (roughly 8.4 mm shares) at an average price of $65.00. While repurchasing this much of the stock at these prices may be unrealistic, the outcome is staggering. We believe the Company could pay up to $100.00 a share to retire 30 percent of its outstanding stock and still be able to consummate a very accretive transaction for remaining shareholders.
In hindsight, the Board's choices regarding capital allocation appear tight-fisted and are even more disheartening in light of the rapid growth of the Company's Redbox segment. Bluntly speaking, we don't think the Company is doing enough. With a cash position of almost 1x EBITDA, we believe the Company is approximately 2x full turns of leverage below comparable mature companies despite its relatively lower capital intensity and higher cash generation abilities.
We also note that the Board has almost no ownership of the Company's shares even after receiving ample share-based compensation for its services over the years. This disparity raises serious concerns about the current Board's sense of urgency and its alignment of interests with shareholders. We are aware that our concerns and beliefs are shared by other shareholders and were previously presented to the Board and Management, only to later be ignored. Also, we understand from various media outlets that the Board rejected a Private Equity firm's offer to acquire the Company last summer at a substantial premium to its current market valuation.
Perhaps such actions are explained by the fact no board member, or member of management, has made a single open market acquisition of Company shares since August of 2003, and thus has very little invested in the Company's stock appreciation.
We are asking the Board and Management to do what is right for the Company's shareholders to whom the Board has a fiduciary duty. It is our belief that successful execution of the initiatives outlined in this letter will reward the Company's patient shareholders, many of whom have earned zero return in recent years on their investment.
ADW Capital Partners, L.P. and its affiliates hold a sizable stake in the Company's common shares and urge the board to take our recommendations seriously. We look forward to hearing your response.
Adam D. Wyden
Managing Member of ADW Capital Partners, L.P.
Cautionary Statement Regarding Forward-Looking Statements:
The information herein contains "forward-looking statements." Specific forward-looking statements can be identified by the fact that they do not relate strictly to historical or current facts and include, without limitation, words such as "may," "will," "expects," "believes," "anticipates," "plans," "estimates," "projects," "targets," "forecasts," "seeks," "could" or the negative of such terms or other variations on such terms or comparable terminology. Similarly, statements that describe our objectives, plans or goals are forward-looking. Our forward-looking statements are based on our current intent, belief, expectations, estimates and projections regarding the Company and projections regarding the industry in which it operates. These statements are not guarantees of future performance and involve risks, uncertainties, assumptions and other factors that are difficult to predict and that could cause actual results to differ materially. Accordingly, you should not rely upon forward-looking statements as a prediction of actual results and actual results may vary materially from what is expressed in or
indicated by the forward-looking statements.
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