Vista Outdoor Stock: M&A At A Questionable Time (NYSE:VSTO)

Shares of Vista Outdoor (NYSE:VSTO) have taken a beating as of recent, as shares reverted from a momentum-induced run higher during the pandemic. This share price action, the passage of time, and a huge deal being announced right now are sufficient reasons to update the thesis.

In September of last year, I concluded that Vista was on the acquisition hunt again, relatively soon after leverage incurred during a previous episode of deal-making put the company in a tough spot ahead of the pandemic. After all, shares fell from a high of $40 in 2016 to just $7 during the pandemic, as shares were trending lower for years ahead of the pandemic already, as an initial scare reaction actually resulted in a boom period soon thereafter.

Former Take

Following a deal-making spree years ago, Vista was facing real struggles in recent years, as sales fell and margins retreated, to rapidly increase leverage ratios. For the year 2019, the company posted an 11% decline in sales to just over $2.0 billion, yet EBITDA of $137 million was relatively modest given a net debt load of $682 million, translating into a 5 times leverage ratio.

With the company originally guiding for 2020 sales to fall just below the midpoint of $2.0 billion mark, the company missed those estimates by a huge margin with sales eventually posted at less than $1.8 billion, only pushing up leverage higher. For the fiscal year 2021 (which started in spring 2020) the company guided for soft results as this left all options on the table, including potentially bankruptcy, yet real appeal was found as well as a turnaround could potentially create great shareholder value as well.

The pandemic provided an unexpected boom, not just in gun and ammunition related sales, but certainly shooting sports, and other outdoor offerings of the business. This was seen in the fiscal year 2021 results, which ended early in the calendar year 2021. Revenues for the year rose nearly half a billion to $2.2 billion, with great operating leverage seen as net losses of $132 million turned into profits of $272 million, equal to $4.50 per share. Net debt was down to just a quarter of a billion, with leverage coming in far below 1 times EBITDA.

While these results were very strong, the company saw greater momentum in the first half of 2022, as revenues were trending at nearly a $3 billion run rate, with earnings trending as high as $7 per share. Shares traded at $41 at the time, translating to a mere 6 times earnings multiple, as a $2.5 billion equity valuation rose to $2.8 billion after factoring in net debt. The low earnings multiple was arguably very compelling, but it was very obvious as well that earnings momentum was not representative of earnings power through the cycle.

Moreover, the company announced a big deal as well, fetching $474 million to acquire Foresight Sports in order to grow in the design and manufacturing of golf performance analysis, entertainment and game enhancement technologies. Despite some tax benefits, the deal was valued at over 4 times sales of around $100 million, while Vista traded around 1 times (albeit lower margin) sales as EBITDA margins of Foresight were seen around a truly impressive 50%.

With net debt seen at three-quarters of a billion, I was a bit mindful as a net debt load of half a billion brought the company into jeopardy already not too long ago, as I would like to see some real deleveraging with earnings power trending at $7 per share.

While I was a bit too cautious of the business and diversification was up, I was still a bit cautious, mostly given the reversal of margins already seen in a minor extent this year and leverage incurred.

And Now?

With exception to a brief run towards the $50 mark around the turn of 2021 into 2022, shares have seen a move lower and by now have fallen to $27 per share. In May, the company posted its full year results for 2022 as revenues rose 37% to $3.04 billion, with fourth quarter sales trending at more than $3.2 billion. Operating profits came in at $646 million as net earnings of $473 million came in at $8 per share. Net debt was reported at $644 million, marking some deleverage already following the purchase of Foresight.

For 2023, the company guided for a 5% increase in sales to $3.2 billion (at the midpoint of the range). Adjusted earnings are seen a bit lower at $7.00-$7.75 per share, with leverage coming below 1 times, mostly as a result of the huge earnings power currently reported.

At the same time, the company announced its intention to separate its outdoor products and sporting products segment into two separate businesses, just like its peer Smith & Wesson has done.

Another Deal

Early in July, just ahead of the first quarter results being released, Vista announced another substantial deal. The company has reached a deal to acquire Fox Racing, a performance motocross, mountain bike and lifestyle brand for adventure seekers in a $540 million deal, with earn-outs having the potential to add another $50 million to that price.

Relatively few details have been announced, as $350 million in revenues will be added to the outdoor segment with the deal, revealing that a 1.5-1.7 times sales multiple has been paid (depending on if you include earn-outs).

Right now, the valuation of Vista has narrowed quite a bit as 58 million outstanding shares now trade at just $27, translating into an equity valuation of $1.5 billion, or near $2.2 billion enterprise value based on net debt as of the end of the fiscal year 2022. In this light, a $540 million deal is substantial, equal to a quarter of the value of Vista ahead of the deal announcement.

Moreover, net debt will jump to $1.2 billion, pushing up leverage ratios quite a bit, which is concerning investors given the softness in outdoor categories with Covid-19 on the retreat, concerns about discretionary spending, and quite frankly leverage concerns if these current peak results turn South.

After all, Fox adds $55 million in EBITDA, for margins of around 16% which actually trail those of Vista. Hence, I can understand why investors are cautious as a 10 times EBITDA multiple has been paid, all while Vista trades at less than 4 times, indicating that share buybacks might be a better value creating route right now.

What Now?

With Vista still posting earnings power close to $7 per share, I see real risk to that guidance given the trends related to the pandemic and the macro picture. While that is not really a concern at just a 4 times earnings multiple, as even a big pullback in earnings still translates into decent earnings multiples.

That is interesting enough, but I simply fear what happens with the shares and business given a $1.2 billion net debt load which simply is quite high as a pullback in performance could easily increase leverage again, something I am mindful of given memories of the business with leverage in the past.

Hence, I find myself performing a balancing act and while it might be tempted to start buying some shares, and this works great if leverage does not become an issue, I simply cannot put myself together to buy the shares here, despite the low valuations.