Mario Gabelli's Potential Takeover Candidates (Part I)

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Mario Gabelli, a famous investment manager, likes businesses that have a high potential of being acquired. He shared his investment ideas, including Hillshire Brands, Post Holdings, Viacom, and Xylem in a 2013 Barron’s Roundtable. In addition, he also talked about two other potential takeover candidates. One is Patterson Companies (NASDAQ: PDCO), which is the distributor of dental, veterinary and rehabilitation products. The other is Boulder Brands, a functional food marketer. In this article, we will take a closer look at Patterson.

Big in Dental and Veterinary Supply

Patterson is considered a value-added distributor with three main reportable segments: dental supply, veterinary supply, and rehabilitation supply. The majority of the revenue, nearly $2.29 billion, or 65% of the total revenue, was generated from the dental supply division. Veterinary supply ranked second with $734.4 million in revenue, while sales of rehabilitation supplies totaled $513.3 million. Consumable and printed products were the main sources of revenue, generating more than $2.1 billion in revenue in 2012, whereas the revenue of the equipment and software products was $930.6 million. Both the dental supply and the veterinary supply have a quite diverse customer base. No single customers accounted for more than 1% of sales in 2012. With more than 110,000 customers in North America, Patterson Dental’s market share is around 33%, while the market share of its veterinary supply segment is approximately 21%.

Gradually Growing in the Next Several Years

Mario Gabelli said that dental supply was one of his favorite industries. Since 2009, the company’s EBITDA has been flat at $400 million, but it was going to increase. Patterson had low capital expenditure, at only around $25 million per year. Thus, the business was a cash cow. Trailing twelve months, the free cash flow reached $319 million. As of October 2012, Patterson had nearly $1.36 billion in total stockholders’ equity, $500 million in cash, and $775 million in both short and long-term debt, meaning that the company had a net debt of $275 million. Gabelli estimated that the company would earn $2.3 per share in fiscal year 2013, and its EPS would increase gradually to $3 in the next 3-4 years. At the current price of $36.90 per share, the total market cap is more than $4 billion. The market is valuing the company at around 10x EV/EBITDA. 

Highest Margin and Cheapest Valuation

Compared to Patterson’s peers, including Henry Schein (NASDAQ: HSIC) and MWI Veterinary Supply (NASDAQ: MWIV), Patterson has the cheapest valuation. Henry, with a total market cap of $7.75 billion, is valued at 11.17x EV/EBITDA, while MWI, with a total market cap of $1.6 billion, is the most expensive with a 16.4x EV multiple. Interestingly, Patterson seemed to be the most profitable company among the three. Over the past 12 months its operating margin was 10%, while the operating margins of Henry and MWI were 7% and 4%, respectively. Gabelli said that Henry was “more cutting-edge” than Patterson in the dental supply business and MWI did the best job in the veterinary products market. Among the three, only Patterson is paying dividends to shareholders with a 1.5% dividend yield, whereas Henry and MWI aren’t paying any dividends.

Foolish Bottom Line

Gabelli thought Patterson could be a potential takeover or split-up candidate. If Patterson is acquired or split into several different companies, the company will receive a decent premium on the current stock price. Indeed, with the strong positions in both dental supply and veterinary supply markets, and a reasonable valuation, Patterson could be considered a long-term position for investors.

 


hoangquocanh has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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