SolarWinds to Complete N-Able Spin-Off on July 19, 2021; Maintain NEUTRAL, $19 Fair Value Estimate

• On June 25, 2021, after the market close, SolarWinds Corp. (NYSE: SWI) announced that the company will complete the spin-off of its MSP business on July 19, 2021. Shareholders of record as of July 12, 2021, the record date, will receive one share of N-able Inc. for every two shares of SWI held. N-able is expected to begin regular-way trading on July 20, 2021, on the NYSE under the symbol “NABL”.
• On or about July 9, 2021, it is expected that N-able will trade on a “when-issued” basis” under the symbol “NABL”.
• SWI also announced that the company has authorized a reverse stock split with a ratio between 2:1 to 4:1. The reverse split authorization is valid at anytime prior to December 31, 2021.
• As a standalone company, N-able would have generated $302.9 million in revenue and $120.69 million in adjusted EBITDA in 2020. Approximately 53% of N-able revenue was derived from North America, while the U.K. accounted for 10.5%. Revenue growth of almost 16% in 2020 benefited from new MSP partners and expanding business for current MSP partners. Subscription revenue increased 16% as the company added new MSP partners and existing partners added new customers. A key difference between SWI’s Core IT business and N-able is in the revenue growth model, with N-able generating increased revenue as its MSP clients expand their own client base.
• Following the separation, the parent company will continue to deal with the fallout from the cyberattack involving its Orion monitoring products between March and June 2020, which will likely result in lower new customer acquisitions and potential cancellations by existing customers. We would expect that revenue growth rates, historically in the mid- to high-single-digits, will be depressed in the near term before returning to previous levels as concerns over the impact of the cyberattack pass. Lower revenue growth and an increased focus on existing customers versus new customer acquisitions is likely to result in lower margins near term, with a return to “rule of 50” operations (revenue growth plus EBITDA margin over 50%) in 2022. Management commentary suggests that the parent company will generate initial margins of roughly 42%-43% as a standalone company while incorporating approximately $20-$24 million in incremental costs that will be phased in over the next year.
• On a pre-spin, sum-of-the-parts basis, we fairly value shares of SolarWinds at $19 per share. Our fair value estimate is comprised of approximately $9 per share in value from post-spin SWI and approximately $10 per share in value from N-able. Post-spin we fairly value N-able at $20 per share based on the 2:1 share distribution ratio.
• Although our pre-spin fair value estimate implies approximately 10% price appreciation potential from the current share price, we rate shares of SWI at NEUTRAL prior to the spin. Our NEUTRAL position is based on what we believe will be residual overhang on both post-spin entities from the recent cyberattack. Although we believe that both N-able and SolarWinds will be able to move past the incident, especially since it appears that minimal damage was actually incurred, we do not see the separation as a catalyst to realize the potential price appreciation, particularly as the share price has appreciated substantially from the 52-week low of $13.98 following the announcement of the attack.
• Further, we note the ownership levels by private equity firms, meaning that shares of both post-spin entities and the pre-spin company will have a limited float, with the possibility that an eventual exit by either Thoma Bravo or Silver Lake could introduce a degree of volatility. Post-separation, we favor N-able’s business model, as we believe that growing demand from small and mid-sized businesses for affordable monitoring solutions will lead to a greater number of MSP partnerships and an increasing number of clients for existing partners.
• For more details, please refer to The Spin Off Report dated June 7, 2021.

GlaxoSmithKline plc to Spin-Off Consumer Healthcare Business

On June 23, 2021, GlaxoSmithKline plc (GSK LN, NYSE: GSK) detailed plans to spin-off its ownership interest in the company’s consumer healthcare business. The separation, which is expected to be completed in mid-2022, will be accomplished by a distribution of GSK HealthCare shares to GSK shareholders of record, in what management cites as a “tax efficient” manner for both UK and US shareholders. Shares will be listed on the London Stock Exchange under a yet to be determined symbol, with ADRs to be listed in the US. GSK will retain approximately 20% of its current ownership stake (68% of the JV) in the new healthcare company, which it intends to sell in a timely manner post-separation. In conjunction with the separation, New GSK is expected to receive a GBP8 billion dividend from the spin company. The spin-company is targeting net debt to EBITDA of up to 4.0x and having an investment grade credit rating. Given the timing of the planned separation, it is expected that shareholders will receive dividends in aggregate of 55p from New GSK and GSK Healthcare in 2022. Beginning in 2023 New GSK is expected to issue 45p per share in dividends; GSK paid 80p per share in dividends during 2020.

The spin-off is the culmination of GSK’s transformation initiatives that began in 2017 and have included strengthening R&D, asset divestitures, and the creation of a joint venture (JV) with Pfizer that combined the two companies’ respective consumer healthcare businesses. The JV was created with an all-equity transaction that resulted in a leading consumer healthcare business, that was expected to realize significant cost synergies of GBP500 million by 2022. GSK retained 68% ownership interest in the JV, with Pfizer controlling the remainder. As stated within the original JV announcement GSK intended to demerge its equity interest into a separate, London listed publicly traded company within three years of closing. The JV closed on August 1, 2019.

GSK HealthCare (SpinCo) will be the number one global consumer healthcare player, with 2020 annual sales of GBP 10 billion and a 22.1% operating margin. The company will control 20 brands that each have over GBP 100 million in sales and five products that control a global leadership position. Recognizable significant brands in the company’s portfolio include Sensodyne, Polident, Advil, Theraflu, and Centrum, amongst others.

Following the separation, New GSK (ParentCo) will focus on vaccine and specialty medicines development, while continuing to rationalize its general medicines portfolio for profitability and cash. The strengthened balance sheet will support increased R&D and provide opportunities for opportunistic acquisitions of late-stage development assets. New GSK is targeting 5% revenue and 10% operating profit CAGR through 2026, which incorporates assumptions on the company’s current late-stage development products and expected loss of exclusivity on certain products. Key focus will be on resource allocation to infectious diseases, HIV, Oncology, and immunology/respiratory treatments with products both currently marketed and in late-stage development. Longer term the company is targeting more than GBP33 billion in revenue in 2031 from the current ~GBP24 billion. In terms of profitability, management cites opportunities to increase adjusted operating margin from the current/2021 estimate of mid-20s% to over 30% in 2026 via sales mix shift and cost savings opportunities which have been increased from GBP800 million to GBP1 billion.

Assuming modest growth for GSK HealthCare of 3%-5% from the base year 2020 revenue of GBP10 billion, if can be estimated that the new consumer health care company would generate ~GBP10.9 billion in revenue. Assuming the company operated with a discounted margin versus 2020 levels, which would assume some margin improvement from increased sales offset by standalone corporate costs, the spin company would generate operating income of GBP2.2 billion at a 20% margin (healthcare operated at 22% margin in 2020). Incorporating GBP235 million in depreciation, we estimate that as a standalone company the healthcare business would earn GBP2.4 billion of EBITDA. For the parent, we base our earnings estimates on 2020 revenue of GBP24 billion and 5% annual sales growth, resulting in 2022 revenue of GBP26.5 billion. Assuming a 25% margin, and ~GBP1.3 billion in D&A, the parent company would earn GBP7.9 billion before interest, taxes, depreciation, and amortization in 2022.

In terms of post-spin trading, we would expect that the higher margin, more specialized parent company would experience multiple expansion to resemble large pharmaceutical company peers more closely, which currently trade at approximately 11x 2022 EBIDA estimates. The spin company, with lower margins and more commoditized products would likely see multiple contraction from the current 9.5x GSK multiple. Valuing post-spin shares at 9.0x and 11.0x EBITDA, for HealthCare and New GSK, respectively, enterprise values of GBP21.6 and GBP 86.7 billion are derived. Incorporating current net debt of GBP27.5 billion and 5 billion shares outstanding, a preliminary, pre-spin, sum-of-the-parts fair value estimate of GBP16 per share is derived, representing 14% upside from the current share price. For reference, given the NYSE listed ADRs (1 ADR = 2 London shares and a current GBP/USD FX rate of 1.3988), this implies a fair value estimate of $45 per share versus the current NYSE price of ~$40 per share.

CGNT posts 1Q F2022 results broadly ahead of consensus and maintains its full-year guidance, implying top-line growth of ~10% with normalized adj. EBITDA growth of ~14%; growth still expected to accelerate in F2023-F2024

• This morning, CGNT posted 1Q F2022 sales growth of 12.3% to $115.2 million with a ~66% increase in adjusted EBITDA to $21.1 million (on 590 bps of margin improvement to 18.3%) and adj. EPS of $0.20 (versus $0.09 in 1Q F2021). Results compared with consensus of $113.8 million, $16.8 million and $0.20 per share, respectively, as well as management’s commentary that April-quarter sales would grow 10%-12% to $113-$115 million and that EPS would be “at least $0.15”.
• Roughly 89% of sales came from software (up from ~85% in the year earlier period) and the gross margin expanded 400 bps to 72.6%. Anecdotally, with the transition to a software model largely complete management intends to turn its attention to expanding its subscription/recurring revenue base (currently ~50% of sales) although it expects the shift to be gradual over the medium-term (i.e., 3-4 years).
• The company ended 1Q F2022 with no long-term debt, cash & equivalents of $54.7 million, restricted cash of $23 million and short-term investments of $14.4 million.
• CGNT backed its full-year F2022 guidance, which calls for total sales growth of ~10% to ~$490 million with normalized adjusted EBTIDA growth of 14% to $85 million and adj. EPS of ~$0.80. For 2Q F2022, CGNT indicated the expectation that sales would grow ~9% and adj. EPS will be ~$0.14. The company still expects adj. EBITDA growth to accelerate into the mid-teens in F2023 and to ~20% in F2024.
• Our fair value estimate remains $34 per share based on a 23x multiple on F2023 adj. EBITDA of $99.5 million as well as projected net cash of $105.5 million (see Exhibit 1 on page 2). For context, this valuation implies a 2023E EV/sales multiple of ~4.25x and, if based on F2024E estimates, implies EV/sales and EV/EBITDA multiples of roughly 3.75x and 19.0x, respectively.

• Today, in connection with plans to favorably refinance it outstanding debt, EVRI provided preliminary 2Q 2021 results, which were well-ahead of our estimates and consensus. To that end, the company expects June-quarter sales to be $167-$172 million, with net income of $31-$34 million, adjusted EBITDA of $87-$91 million and free cash flow of $32-$36 million. (For comparison, current consensus estimates stand at $139.5 million, $25.8 million, $73.6 million and $25.8 million, respectively, and all figures represent solid growth on both a sequential and year-over-year basis.)
• For additional context, we note that on the FinTech side of the business the total value of monthly transactions processed have been demonstrating “mid-teens” growth over comparable periods in 2019 (i.e. pre-pandemic) since March 2021.
• Importantly, the company’s net cash position rose to $225.5 million as of May 31st (compared with $183 million at the end of 1Q 2021 and $139 million at the end of 2020).
• On the refinancement front, announced plans to take advantage of current conditions to refinance its $35 million revolver (due 2022) and its $820 million term loan (due 2024) as well as pre-pay its $125 million incremental term loan (due 2024) and redeem $285.4 million of unsecured notes (due 2025). Following the transaction, EVRI expects to have ~$1.0 billion of outstanding debt along with an undrawn $125 million revolver.
• The company expects to report actual 2Q 2021 results after the market close on August 4th.
• Our fair value estimate is increased to $23 per share (see Exhibit #1 on page 2), reflecting a blended multiple of ~9.5x on 2023E EBITDA of $304 million as well as net debt of ~$1.0 billion and a diluted share count of ~94.5 million. [Note: our forecasts do not add back stock-based compensation.]

XPO increases 2021E consolidated adj. EBITDA guidance; files Form 10 with initial 2022E guidance and pro forma capital structure for GXO; transaction to be completed in 3Q 2021; fair value increased to $168 per share (from $165)

• Today, XPO increased its full-year 2021E adj. EBITDA guidance to $1.845-$1.895 billion (compared with its previous outlook of $1.825-$1.875 billion and its initial guide of $1.725-$1.80 billion), reflecting better than expected performance at the Transportation segment. The new range implies consolidated year-over-year growth of 32%-36%, reflecting the expectation for growth of 28%-32% at Logistics (maintained compared with the previous forecast) and 32%-36% (increased from 30%-34%) at Transportation.
• As well, the company publicly filed its initial Form 10 for the impending spin-off of GXO Logistics, which, among other things, indicated that the transaction is expected to be completed in 3Q 2021 and outlined an initial post-spin 2022E financial outlook as well as a pro forma capital structure. Additionally, the company indicated that it would hold an investor day to discuss the spin-off in New York on July 13, 2021 (with another event planned to be held in London as travel restrictions permit).
• In terms of 2022E guidance, management expects GXO Logistics to post organic revenue growth of 8%-12% (compared with our previous ~7.5% forecast) with pro forma adj. EBITDA growth, including pro rata corporate costs, of 14%-20% to $700-$735 million (compared with our previous estimate of $671 million). Adjusted EBITDAR is expected to be ~$1.5 billion.
• On the capital structure front, GXO’s pro-forma balance sheet is expected to include $228 million of cash, $955 million of debt, including $923 of long-term debt, and equity of $2.45 billion. (For context, we previously assumed that GXO would be levered at ~1x with net debt of ~$741 million).
• Fair value is increased to $168 per share (from $165), reflecting $117 for XPO/Trans. based on a blended multiple of 12.5x on 2022E EBITDA, inclusive of pro rata corp. costs and net debt, and $51 for GXO/Logistics based on a 9.5x multiple (see Exhibit #2 on page 2). We continue to view the impending spin as a value unlocking event.

Attached, please see The Spin-Off Report Update on XPO Logistics, Inc. (NYSE: XPO).

XPO Increases Consolidated 2021E Adj. EBITDA Guidance; Files Form-10 with Initial 2022E Guidance and Pro Forma Capital Structure for GXO; Increase FVE to $168 (from $159 per share), Maintain BUY Rating

• Today, XPO filed an 8-K, in which it increased its full-year 2021E adj. EBITDA guidance to $1.845-$1.895 billion (compared with its previous outlook of $1.825-$1.875 billion and its initial guide of $1.725-$1.80 billion), reflecting better than expected performance at the Transportation segment. The new range implies consolidated year-over-year growth of 32%-36%, reflecting the expectation for growth of 28%-32% at Logistics (maintained compared with the previous forecast) and 32%-36% (increased from 30%-34%) at Transportation.
• As well, the company publicly filed its initial Form 10 for the impending spin-off of GXO Logistics, which, among other things, indicated that the transaction is expected to be completed in 3Q 2021 and outlined an initial post-spin 2022E financial outlook as well as a pro forma capital structure. Additionally, the company indicated that it will hold an investor day to discuss the spin-off in New York on July 13, 2021 (with another event planned to be held in London as travel restrictions permit).
• In terms of 2022E guidance, management expects GXO Logistics to post organic revenue growth of 8%-12% (compared with our previous ~7.5% forecast) with pro forma adj. EBITDA growth, including pro rata corporate costs, of 14%-20% to $700-$735 million (compared with our initial estimate of $661 million). Adjusted EBITDAR is expected to be ~$1.5 billion.
• On the capital structure front, GXO’s pro-forma balance sheet is expected to include $228 million of cash, $955 million of debt, including $923 of long-term debt, and equity of $2.45 billion. (For context, we initially assumed that GXO would be levered at ~1x with net debt of ~$735 million).
• Based on the aforementioned framework, our fair value estimate for pre-spin XPO Logistics is increased to $168 per share (from $159 per share), which reflects a blended multiple of ~10.5x on 2022E EBITDA of $2.07 billion (previously $1.975 billion) and is comprised of $117 per share for post-spin XPO (previously $111 per share) and $51 per share for post-spin GXO (previously $49 per share).
• With more than 15% of incremental upside we continue to view the impending spin-off, whose rationale is rooted in management’s frustration that, despite industry-leading sale and operating performance, in terms of growth, profitability and free cash flow generation, its myriad business trade at persistent discounts to their relevant peers, as a value-locking event. In that context, amid solid underlying fundamentals, which could support additional upside to current forecasts, we see the opportunity for a re-rating across XPO’s portfolio of businesses.
• For more details, please refer to The Spin Off Report dated April 7, 2021.

Sell Off in Organon Shares Presents Attractive Entry Point; Maintain BUY, $48 Fair Value Estimate

• Organon & Co. (NYSE: OGN) was spun off from Merck & Co. Inc. (NYSE: MRK) on June 2, 2021, with regular way trading commencing on June 3, 2021. MRK shareholders of record received one share of Organon for every 10 shares of Merck held.
• Organon closed trading yesterday at a price of $28.91 per share. For reference shares of OGN closed when-issued trading on June 2, 2021, at $35.26, and closed its first day of regular-way trading at $33.68.
• In relation to the initial selling, it is worthy to note that OGN was included in the S&P 500 index, replacing HollyFrontier Corp. (NYSE: HFC), which indicates that shares are not likely being indiscriminately sold due to index exclusion, but rather this is a shareholder rotation from MRK shareholders who prefer holding a large, research-based pharma company versus OGN’s portfolio of mostly established but non-exclusive products with a growing biosimilar pipeline.
• Given the recent sell off in shares, we view the current valuation as presenting an attractive entry point. Based on our 2022 earnings estimates of $5.17 per share and EBITDA of $2.1 billion, shares of OGN currently trade at 5.6x 2022E EPS and 7.7x 2022E EBITDA. For reference, OGN management has guided to 2021 sales and EBITDA margins of $6.1 – $6.4 billion and 36.0% – 38.0%, respectively, versus our 2022 forecasts of $5.9 billion in sales and 36% EBITDA margin.
• While we acknowledge OGN’s current headwinds, including challenging revenue trends at Women’s Health and Established Brands, we continue to expect Woman’s Health to achieve low single-digit revenue growth, a stabilization in Established Brands, and double-digit sales growth from the growing Biosimilar business moving forward, which are factors that we believe have been too heavily discounted in the current share price.
• We maintain our BUY rating and $48 fair value estimate on Organon. Our fair value estimate is based on an average of a 10x EV/EBITDA multiple and 9.5x P/E multiple on our estimated earnings.
• For more details, please refer to The Spin Off Report dated May 13, 2021, and UPDATE dated June 3, 2021.

Please see the attached Hidden Opportunities Update on Domtar Corporation (NYSE: UFS).

Close coverage of UFS with shares trading roughly in-line with Paper Excellence’s $55.50 per share cash offer

• With the shares trading roughly in-line with Paper Excellence’s $55.50 per share cash offer price and the deal, in our view, likely to close as announced we will close coverage of Domtar Corp. (UFS), as of today’s close.
• For context, UFS shares returned ~113% since our re-initiation in September 2020 (compared with a 29.5% increase in the S&P 500 and a 57% increase in the Russell 2000). [Note: Recall, we had previously recommended UFS from March 2017 until it reached our fair value estimate in January 2018 during which time the shares returned ~39.5% versus roughly 10% gains in both the S&P and Russell.]

Drop Coverage of Pfizer Inc., The Aaron’s Co. Inc., SYNNEX Corp., and Concentrix Corp. Effective Immediately

• Pfizer Inc. (NYSE: PFE) spun off its Upjohn business, which was subsequently merged with Mylan NV to form Viatris Inc. (NASDAQ: VTRS) on October 16, 2020.
• The Aaron’s Co. Inc. (NYSE: AAN) spun off PROG Holdings Inc. (NYSE: PRG) on October 30, 2020.
• SYNNEX Corp. (NYSE: SNX) spun off Concentrix Corp. (NASDAQ: CNXC) on December 1, 2020.
• Given the transactions have now passed our coverage mandate of 90 days post-spin, we DROP coverage of Pfizer Inc., The Aaron’s Co. Inc., SYNNEX Corp., and Concentrix Corp. Effective Immediately.
• Our prior estimates and fair values for PFE, AAN, SNX, and CNXC should no longer be relied on.

Merck Completes Spin Off of Organon; Maintain BUY Rating, $89 FVE on Post Spin MRK; Rate Organon at BUY with a $48 FVE

• On June 2, 2021, after the market close Merck & Co. Inc. (NYSE: MRK) completed the spin-off of its woman’s health business, Organon & Co. MRK shareholders of record received one share of Organon for every 10 shares of MRK held. Organon will begin trading on the NYSE under the symbol “OGN” on June 3, 2020.
• Shares of Organon closed trading yesterday in the when-issued market at a price of $35.26 per share. Shares of Merck, ex-Organon, closed at $73 in the when-issued market.
• As a stand-alone company, Organon’s stated mission is to be “the world’s leading women’s health company and deliver a better and healthier every day for every woman.” The company will have a portfolio of over 60 products that include MRK’s current contraception and fertility business, a growing biosimilars business, and a portfolio of brands that are generally off-patent, focused on cardiovascular, respiratory, dermatology, and non-opioid pain management.
• Post-spin, Merck will continue to focus on its strong growth areas of Oncology, Vaccines, Hospital and Animal Health. By separating its slower-growth businesses, Merck can focus on key growth areas, most notably its cancer drug Keytruda and other vaccines. The separation will increase MRK sales growth by approximately 1% annually, reduce Merck’s total human health products by approximately 50% and its Human Health manufacturing footprint by approximately 25%. Merck expects to retain its current dividend post-separation and anticipates future increases with the goal of achieving a 47% to 50% payout ratio over time.
• We view the improved revenue growth, margin profile, and balance sheet of the post-spin parent as key investment themes for shares. When combined with what we view as a current discount to large pharma peers, and the catalyst of the spin-off, we consider shares as attractively priced and continue to rate MRK at BUY with a $89 per share fair value estimate.
• We rate shares of Organon at BUY with a fair value estimate of $48 per share. While our fair value estimate represents 36% potential price appreciation, we view the potential for near term selling pressure as current investors likely preference for the parent company to be an initial risk that could result in some volatility in early trading.
• Following the spin-off, we favor the parent company for longer-term investors on strong sales from its Keytruda drug and an improving drug pipeline versus the current challenges to revenue stabilization at Organon.
• For more details, please refer to The Spin Off Report dated May 13, 2021.