Compass Diversified buys and sells companies, yet it’s not a private equity firm.
It’s publicly traded (NYSE: CODI), yet it’s not a conglomerate.
“It’s not really private equity. It’s not a corporate conglomerate. It’s somewhere in between,” Chief Executive Elias Sabo told the Business Journal during an hour-long interview.
“We’ve heard people say we’re like Berkshire Hathaway and it’s an incredible compliment, but we’re not there yet,” Chief Operating Officer Pat Maciariello added.
Compass is the owner of 10 middle-market companies, including Irvine-based retailer and tactical gear maker 5.11 Inc., which has filed to go public, and Newport Beach’s Lugano Diamonds & Jewelry Inc., which was purchased in September.
While Compass’ headquarters is officially in Westport, Conn., both Sabo and Maciariello are longtime residents of Orange County with no plans to leave.
In fact, they recently moved their local office from Newport Center Drive to Costa Mesa, where they signed a 10-year lease for a facility west of John Wayne Airport.
“I love the area; I love Orange County,” Maciariello said. “Headquarters are becoming less relevant.”
They manage a portfolio that has 4,000 employees and where 2021 revenue is expected to rise 25% to $1.9 billion and adjusted profit (EBITDA) will climb to 30% to 33% to $380 million to $390 million.
Their goal is to surpass $1 billion in annual EBITDA, which means they are hunting for acquisitions.
Wall Street likes the story, as the shares have almost tripled in the past 18 months to a $2 billion market cap.
“CODI’s consumer businesses continued to be well positioned to benefit from the changing consumer landscape,” Oppenheimer analyst Mitchel Penn wrote in a Nov. 1 note to investors after the company’s third-quarter results. “CODI’s industrial businesses also performed above expectations.”
A Linebacker
Sabo, played linebacker at Division III Rensselaer Polytechnic Institute, where he has a degree in finance. He moved to California in 1992, and worked in the private equity industry with companies such as CIBC Oppenheimer, Boundary Partners and Colony Capital.
In 1998, Sabo co-founded Compass, which was set up as a unit of a nonprofit that wanted to diversify its investments into private equity.
In 2006, it was spun off into a publicly traded firm with four companies; Sabo became CEO in 2018.
Maciariello, who was previously a consultant at Bain & Co., joined in 2005. Now a partner, Maciariello is responsible for the financial and strategic oversight of the firm’s portfolio companies.
“I’m very much a numbers guy,” he said. “I focus relentlessly on gross profit margins. It’s a very good indicator of a company’s position within its industry.”
Compass, which invests in industrial and branded consumer verticals, is aiming to acquire one to two companies a year for around $200 million to $600 million each. It’s seeking fast growers with cash flow from $20 million to $70 million annually.
“We’re looking for companies that can preserve their place in the marketplace,” Sabo said. “We’re trying to deepen that competitive moat.”
One of its points to convince potential targets is to offer executives a chance to exit the “private equity treadmill.”
“There are a lot of companies that move from one private equity firm to another,” Maciariello said. “Sometimes, management teams want to get off the private equity treadmill and get to a place where they’ll be for a while.”
5.11 Buy
After it purchased 5.11 in 2016 for $408.2 million, Compass poured millions of dollars more into updating 5.11’s distribution channels. The pair declined to discuss 5.11.
According to Oppenheimer, 5.11, whose stores sell tactical gear and accessories for police officers and weekend warriors alike, now has an estimated $1.2 billion enterprise value, making it Compass’ most valuable holding.
In September, Compass purchased luxury jeweler Lugano in a deal whose enterprise value was cited at $256 million.
“First and foremost, it’s a company of real artists,” Sabo said. “We don’t run across that level of exceptional talent often.”
The enterprise value of its 10 companies is around $4 billion, according to analyst estimates.
Long-Term Holders
A traditional private equity firm raises money from large endowments and institutional investors, buys a firm and then holds onto it for three to four years before selling it.
“Our biggest differentiator is we are in no way shape or form asset traders like private equity has a reputation for because we have permanent capital and can hold our companies for indefinite periods of time,” Sabo said.
“When we buy a company, we think if this is a company that we’d like to hold forever.”
Compass sometimes sells a company if the right offer comes along. For example, for 16 years it held printed circuit board maker Advanced Circuits Inc. before announcing last month its sale for $310 million. Oppenheimer estimated Compass will pick up a gain of $148 million.
“We are more open to sell if the opportunity makes sense for our shareholders,” Sabo said. “Typical conglomerates don’t really like to divest their businesses.
While PE investors often don’t get their investments back for 10 years, they can sell Compass shares at any time, said Sabo, who himself owns 815,150 shares, or about 1.3% of the company, worth an estimated $25 million.
“If you don’t like what we are doing, you have a viable public market with liquidity where you can sell shares that day. That ultimately speaks volumes as to whether our investors like or don’t like our strategy.”
The Problem With Private Equity
Private equity often places an undue level of risk on those involved with that company, according to Elias Sabo, co-founder of the publicly traded Compass Diversified.
“When you think of traditional private equity, it’s the partners and the investors who get rich, but who takes all the risks?” Sabo said. “It’s the community where it operates. It’s the employees who are employed there. It’s the vendors. All of those groups of constituents will never participate in the upside.
“We believe that model is upside down in that it creates risks for those who shouldn’t have those risks and economic incentives for those really at the top of the chain.
“When you overleverage a business, we think it constrains the ability to make the right operating decision,” Sabo said. “That model works really well in a rising multiples environment.
“Our model is set up to endure changes in multiples and changes in interest rates environment much better because we aren’t set up to use a lot of leverage. Our model is better for times when you don’t have ever- increasing asset prices.
“We think our model aligns better with where we think corporate values are going.”
