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Scenarios Analyzed as Fitness/Billiards Separation Reaches Final Stages

Brunswick Corp.'s (BC) upcoming split with its Life Fitness and legacy billiards businesses, originally planned as a Spinoff, is now looking more likely to be sold instead, given current market conditions and potential value creation opportunities available to the 173-year-old boatmaker. In this analysis, we take a look at the likely valuations involved in either scenario (Spin or sale), and examine exactly what brought the company to this decision.

What's Happening? The Edge Intelligence...
On March 1, 2018, Brunswick Corp. (BC) announced the Spinoff of Life Fitness Holdings, Inc. following pressure from major shareholder Owl Creek Asset Management. The thesis behind the activist push was the lack of synergies between the core marine engine and boat business (FY20E EBITDA of $751m) and the fitness equipment and billiards segments (FY20 EBITDA of $65m). Since then, Owl Creek has sold over 91% of its stake in the company as of Q4 2018 (previously a 2.8% shareholder), and Mark Schwabero, who was actively involved in the planned Spinoff, retired at the end of 2018 and Dave Foulkes took the office. Furthermore, Jamie Irick (then-CEO of the Life Fitness segment) was replaced by Jason Worthy in November 2018.

This has led to a fall of -17% in BC’s share price from the date of announcement of the Spinoff to date, compared to the S&P MidCap 400 Index return of +5% in the same period. This price drop has now prompted the new management to look for potential buyers of the Life Fitness business, which we expect will occur in the current quarter (Q2FY19). The management highlighted in the latest earnings call (Q1FY19 on April 25) a strong interest in the market for a buyer to acquire the Life Fitness segment, though the Spinoff plan remains in place if a buyer cannot be lined up. We expect potential acquirers to be China-based Anta Sports or a private equity firm like FountainVest Partners.

In June 2018, BC made the largest acquisition in its 173-year history by purchasing Power Products (a marine parts and accessories business) for $910m. As seen historically, the demand for parts and accessories has stayed afloat in many previous macro downturns. The acquired business has helped to boost BC’s parts and accessories revenues to $1.5bn (compared to the previous $1.3bn, more than one third of the total BC’s (ex-Spin) sales of $4.1bn) in FY18. We see this acquired segment as a provision to providing adequate caution to BC in future macro downturns and will safeguard its revenues.

The Edge View (BC ex-LF)...
Following the anticipated sale (or back-up Spin plan) of Life Fitness, we believe BC (ex-LF) will be a high margin business (FY20E adjusted net margins of 9.3% compared to peers’ 6.5%) with a leading 25% market share in the stable parts and accessories market (total $6bn). BC is currently trading at a blended FY20E P/E of 10x compared to its peer average P/E of 11.3x, a discount of 11.6%. Furthermore, the negatives (like slowing growth, increased cost due to tariffs and Spinoff uncertainty) seem to already be priced into BC (ex-earnings). In the event of a Spinoff, we expect Life Fitness to see index selling pressure of 2.9% (2.6m shares), though we believe the segment’s sale is the more likely scenario and will be a key catalyst for BC to create value for shareholders.

The below Sale Scenario target prices reflect the varying levels the Life Fitness business may be sold at, with our Base case target price for BC ($60.71) reflecting a middle-ground value of $297m for LF, the Bull case ($65.46) reflects LF’s potential value of $485m, and the Bear case ($47.90) indicates the lower end of the LF sale at $235m. As indicated above, the management may not be able to line up a suitable buyer for the business, so we have also built out valuation scenarios for the potential Spinoff of the Life Fitness business.