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Throw the ball

23 November 2015 By Kevin Allison

It’s time for Petco to learn new tricks. CVC Capital Partners and a Canadian pension fund have won the auction for the No. 2 U.S. pet-store chain, paying $4.6 billion including debt. The outgoing private-equity owners, TPG and Leonard Green, will exit with a 24 percent internal rate of return on equity since they took the company private in 2006. The new owners will need to spruce up growth to fetch anything near that.

For TPG and Leonard Green, it’s the end of a dog’s lifetime. They first took Petco private for $600 million in 2000. Two years later, they sold most of their shares in an initial public offering that valued the business at $1 billion. Then in 2006 they bought the company out again for $1.8 billion. It might have gone on for longer still – before Monday’s deal, Petco had again filed for an IPO.

Take the price on offer from CVC and Canada Pension Plan Investment Board and subtract Petco’s $2.3 billion of debt, and TPG and Leonard Green will collect around $2.3 billion. They’ve taken out two slugs of dividends, too, and overall they’ll make about 4.5 times their 2006 equity investment.

Petco graphic

Petco graphic

Source: Reuters Breakingviews

The buyers – paying a hefty 10 times trailing adjusted EBITDA, even more than BC Partners paid for PetSmart last year – will struggle to make similar returns unless growth picks up. Pet supply sales have some protection from Amazon’s assault on retailing, thanks in part to in-store services like pet grooming where e-commerce isn’t an option. But Petco wasn’t immune to last year’s tough retail environment. The company’s adjusted EBITDA increased by only a little over 4 percent to $457 million in the year to Jan. 31, a slowdown from earlier years.

The new owners are leveraging up with additional debt. Even so, Breakingviews calculations suggest that EBITDA growth would have to average nearly 10 percent a year for CVC and CPPIB to match the IRR achieved by the sellers, taken over five years and assuming an exit at an unchanged multiple of EBITDA. The old dog named Petco will need some of the bounce of its youth to manage that.


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