1February 4, 2014

Private Equity for Surety Professionals: What you Need to

Know

Presented by: Helen Lally Westfield Insurance

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PRESENTER BIOGRAPHY SLIDE(a paragraph for each presenter)

Helen Lally is the Commercial Surety Leader of Westfield Insurance. She is a surety veteran with over thirty years of active industry experience. She has specialized in Commercial Surety for more than

20 years. She has been a presenter at various NASBP Seminars, Webinars and at the William Angell Surety School. She is a member of the NASBP Commercial Surety Committee and is the

liaison between our association and the SFAA Commercial Surety Committee.

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Definition of Private Equity

• Private Equity is an asset class consisting of equity securities and debt in operating companies that are not publicly traded on a stock exchange

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Common Forms of Private Equity

• Private Equity Firm• Angel Investor• Venture Capital

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Definitions

• Private Equity Firm – an investment manager that makes investments in the private equity of operating companies through a variety of affiliated investment strategies including LBO, VC and growth capital.

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Definitions

• Angel Investor – an affluent individual who provides capital for a business start-up, usually in exchange for convertible debt or ownership equity. Pattern is to see some angel groups or angle networks to share research and pool their capital

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Definitions• Venture Capital – financial capital

provided to early-stage, high-potential, high risk, growth startup companies. The VC fund makes money by owning equity in the companies it invests in, which usually have a novel technology or business model in high technology industries

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The Early Years• 1946 – American Research and

Development Corp and J.H. Whitney & Co were founded

• JHW is still thriving and remains privately owned by its investing professionals and they continue to provide private equity capital to small and middle market companies. They introduced the world to Minute Maid Orange Juice

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The Early Years• ARDC’s claim to fame was the first

major venture capital success story when their 1957 investment of $70,000 in equity and $2 million in loans in Digital Equipment Corp turned into a fortune when DEC’s IPO in 1966 was such a success. ARDC was founded to encourage investments by soldiers returning from WWII. Ultimately sold to Textron in 1972.

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Legislative Actions

• Business Development Companies were authorized by the US Congress as part of the Small Business Incentive Act of 1980. A benefit here to investors was the tax pass-through set up to avoid double-taxation on dividends

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History of Private Equity• Leveraged Buyout – LBO – were active in

the 1980’s. LBO’s usually had a ratio of 90% debt to 10% equity. The bonds were usually referred to as junk bonds. In the 1980’s several prominent buyouts led to the eventual bankruptcy of the acquired companies. One of the largest was the acquisition of HCA by KKR, Bain and Merrill Lynch for $33 billion. LBO’s were regarded as ruthless and predatory

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Legislative • Sarbanes Oxley Act of 2002 was a factor in

many publicly traded companies going private. The expense factor of compliance, especially on smaller companies was not favorable.

• Hertz, MGM, and Toys’R’Us were a few that private equity firms invested in and removed them from the public market

Legislative • In 2012 , Congress passed the JOBS Act, which

directed the Securities and Exchange Commission (SEC) to implement rules that, among other things, allow general solicitation and advertising of private placement offerings that are made in reliance on Regulation D, Rule 506. Those rules allow companies and promoters to offer securities through means such as direct mail, cold calls, free lunch seminars and media advertisements.

• The SEC has implemented some changes here about disclosure for investors that may have an impact on investors path of support for developing and mature companies.

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Forms of PE Investment• Senior Debt

– Borrowed money that a company must repay first if it goes out of business. Even though senior debtholders are the first in line to be repaid, they will not necessarily receive the full amount they are owed in a worst-case scenario

• Senior Subordinated Debt– In the case of default, creditors with subordinated debt wouldn’t get

paid out until after the senior debtholders were paid in full.• Preferred Stock

– Have no voting privileges but have priority over other subordinate forms of equity for dividends and claims on the company’s assets in the case of liquidation

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Largest Private Equity Firms

Name Headquarters Capital Raised @ 5/2013

TPG Capital Fort Worth $35.73 bnCarlyle Group Washington, D.C.$32.82 bnThe Blackstone Group New York $29.56 bnKohlberg Kravis Roberts New York$28.41 bnWarburg Pincus New York $26.00 bnG S Principal Investment New York$24.63 bnAdvent International Boston $23.06 bnApollo Management New York $22.07 bnBain Capital Boston $19.36 bnCVC Capital Partners London $17.99 bn

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CDC Example - Corporate Capital Trust

• Formed on June 9, 2010 and commenced operations on June 16, 2011.

• Registered with SEC• @ 9/30/2013 – net assets $1.2 billion

• Investment income $35 million• 1 billion shares authorized; 127 million

issued and outstanding

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Corporate Capital Trust Holdings

• Senior Debt– Hubbard Radio, LLC; Guitar Center, Inc.,

Gymboree Corp, Avaya, Inc., Sabre, Inc., Office Depot, Inc., Bright Horizons Family Solutions, Inc. HUB International

• Senior Subordinated Debt– E-Trade Financial Corp, Aramark Corp,

Chesapeake Energy Corp, Neiman Marcus Group, Trans Union, J. Crew Group, Inc., Cablevision

Capital Raised 2009-2012

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2012 Investments under Regulation D

• Hedge Funds $386 billion

• Private Equity Funds $159 billion

• Venture Capital Funds $ 19 billion

• Other Investment Funds $165 billion

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Gymboree – Case to Analyze

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On November 23, 2010 (the “Transaction Date”), we completed a merger (the “Merger”) with Giraffe Acquisition Corporation (“Acquisition Sub”) in accordance with an Agreement and Plan of Merger (the “Merger Agreement”) with Giraffe Holding, Inc. (“Parent”) and Acquisition Sub, a wholly owned subsidiary of Parent, on November 23, 2010 (the “Transaction Date”), with the Merger funded through a combination of debt and equity financing (collectively, “the Transactions”). We are continuing as the surviving corporation and 100%-owned indirect subsidiary of Parent. Investment funds sponsored by Bain Capital Partners, LLC (“Bain Capital”) own a controlling interest in Parent. The following selected historical consolidated financial data are presented for the Predecessor and Successor periods, which relate to the periods preceding and succeeding the Transaction Date, respectively.

Surety Program Needs• Multi million U.S. Customs Bond• Self Insurance Workers Comp Bond• Transportation needs – fuel tax,

highway use• Various Compliance L&P Bonds• Financial Guarantee Bonds

– Rhode Island Payroll bi-weekly– Utility Deposit Bonds – Con Ed et al

– Program Total - $23 millionFebruary 4, 2014 21

THE GYMBOREE CORPORATIONCONSOLIDATED BALANCE SHEETS (In thousands, except share data)

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    January 30,

2010    January 31,

2009  ASSETS   

     

 

     

Current Assets:   

     

 

     

Cash and cash equivalents    $ 257,672     $ 140,472  Accounts receivable, net of allowance of $434 and $388      9,911       18,735  Merchandise inventories      121,133       114,972  Prepaid expenses      5,315       4,596  Deferred income taxes      14,463       15,108  

 

                

Total current assets      408,494       293,883  

 

                

Property and Equipment:   

     

 

     

Land and buildings      15,776       15,776  Leasehold improvements      228,254       213,164  Furniture, fixtures, and equipment      192,520       183,775  

 

                

 

     436,550       412,715  Less accumulated depreciation and amortization      (231,089)      (208,488) 

 

                

 

     205,461       204,227  Deferred Income Taxes      17,417       20,850  Other Assets      4,758       1,621  

 

                

Total Assets    $ 636,130     $ 520,581  

THE GYMBOREE CORPORATIONCONSOLIDATED BALANCE SHEETS(In thousands, except share data) 

THE GYMBOREE CORPORATIONCONSOLIDATED BALANCE SHEETS (In thousands, except share data)

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LIABILITIES AND STOCKHOLDERS’ EQUITY   

     

 

     

Current Liabilities:   

     

 

     

Accounts payable    $ 46,470     $ 44,400  Accrued liabilities      69,295       69,341  Income tax payable      5,381       102  

 

                

Total current liabilities      121,146       113,843  

 

                

Long-Term Liabilities:   

     

 

     

Lease incentives and other deferred liabilities      70,859       67,072  Unrecognized tax benefits      5,372       5,391  

 

                

Total Liabilities      197,377       186,306  

 

                

Commitments and Contingencies (see Note 2)      —         —    Stockholders’ Equity:   

     

 

     

Common stock, including additional paid-in capital ($.001 par value: 100,000,000 shares authorized; 29,369,126 and 29,077,446 shares issued and outstanding at January 30, 2010 and January 31, 2009, respectively)      198,879       175,519  

Retained earnings      239,531       160,178  Accumulated other comprehensive income (loss)      343       (1,422) 

 

                

Total Stockholders’ Equity      438,753       334,275  

 

                

Total Liabilities and Stockholders’ Equity    $ 636,130     $ 520,581  

THE GYMBOREE CORPORATIONCONSOLIDATED STATEMENTS OF INCOME (In thousands, except per share data)

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     Year Ended  

    January 30,

2010    January 31,

2009    February 2,

2008  Net sales:   

    

 

     

 

     

Retail    $1,001,527     $ 987,859     $ 909,410  Play & Music      13,384       12,819       11,404  

 

                        

Total net sales      1,014,911       1,000,678       920,814  Cost of goods sold, including buying and occupancy expenses      (535,005)      (524,477)      (478,020) 

 

                        

Gross profit      479,906       476,201       442,794  Selling, general and administrative expenses      (316,268)      (327,893)      (312,549) 

 

                        

Operating income      163,638       148,308       130,245  Interest income      728       1,690       2,609  Interest expense      (243)      (208)      (179) Other income (expense), net      610       (151)      769  

 

                        

Income before income taxes      164,733       149,639       133,444  Income tax expense      (62,814)      (56,159)      (53,113) 

 

                        

Net income    $ 101,919     $ 93,480     $ 80,331  

 

                        

 

THE GYMBOREE CORPORATIONCONSOLIDATED STATEMENTS OF CASH FLOWS (In thousands)

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     Year Ended  

    January 30,

2010    January 31,

2009    February 2,

2008  CASH FLOWS FROM OPERATING ACTIVITIES:   

     

 

     

 

     

Net income    $ 101,919     $ 93,480     $ 80,331  Adjustments to reconcile net income to net cash provided by

operating activities:   

     

 

     

 

     

Depreciation and amortization      37,302       34,854       31,151  Provision (benefit) for deferred income taxes      2,727       (3,841)      (9,771) Share-based compensation expense      18,462       19,850       16,381  Loss on disposal/impairment of assets      1,336       448       687  Excess tax benefits from exercise of share-based awards      (3,750)      (6,023)      (3,330) Tax benefit from exercise of stock options      2,629       6,440       3,841  Change in assets and liabilities:   

     

 

     

 

     

Accounts receivable      8,831       (6,122)      424  Merchandise inventories      (6,046)      3,895       (14,874) Prepaid expenses and other assets      (3,865)      7,408       (1,777) Accounts payable      1,854       (8,113)      (3,343) Income tax payable      6,659       (7,877)      2,577  Accrued liabilities      4,843       5,652       3,964  Lease incentives and other deferred liabilities      3,694       14,973       1,606  

 

                        Net cash provided by operating activities      176,595       155,024       107,867  

THE GYMBOREE CORPORATION CONSOLIDATED BALANCE SHEETS (In thousands except per share data)

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     Successor  

          February 2,      

2013           January 28,      

2012                 ASSETS   

     

  

     

Current assets:   

     

  

     

Cash and cash equivalents     $ 33,328         $ 77,910    Accounts receivable, net of allowance of $216 and

$114      27,542          27,277    Merchandise inventories      197,935          210,212    Prepaid income taxes      2,903          3,736    Prepaid expenses      17,341          5,532    Deferred income taxes      31,383          36,115    

 

                 

Total current assets      310,432          360,782    

 

                 

Property and equipment:   

     

  

     

Land and buildings      22,428          22,428    Leasehold improvements      174,616          146,497    Furniture, fixtures and equipment      99,120          82,606    

 

                 

 

     296,164          251,531    Less accumulated depreciation and amortization      (90,839)         (49,379)   

 

                 

Net property and equipment      205,325          202,152    Goodwill      898,966          899,097    Other intangible assets      580,641          599,195    Deferred financing costs      40,040          47,915    Other assets      7,809          4,646    

 

                 

Total assets     $ 2,043,213         $ 2,113,787    

THE GYMBOREE CORPORATIONCONSOLIDATED BALANCE SHEETS (In thousands except per shares)

February 4, 2014 27

Current liabilities:   

     

  

   

 Accounts payable      $ 90,133         $ 79,027   Accrued liabilities      90,443          94,178   Current portion of long-term debt      -               17,698   

 

       

        Total current liabilities      180,576          190,903    

Long-term liabilities:   

     

  

   

 Long-term debt      1,138,455           1,192,171    Lease incentives and other deferred liabilities      40,104          28,681   Unrecognized tax benefits      7,848          7,898    Deferred income taxes      234,593          245,495    

 

       

        Total liabilities      1,601,576           1,665,148    

 

       

             Commitments and contingencies (see Notes 8, 9 and

19)   

     

  

   

 Stockholders’ equity:   

     

  

   

 Common stock, including additional paid-in capital

($.001 par value: 1,000 shares authorized, issued and outstanding)      519,687          519,589  

 

Accumulated deficit      (76,231)          (68,389)  Accumulated other comprehensive loss      (5,914)         (5,825)   

 

       

        Total stockholders’ equity      437,542          445,375    

Noncontrolling interest      4,095          3,264    

 

       

        Total equity      441,637          448,639    

 

       

        Total liabilities and stockholders’ equity     $ 2,043,213          $ 2,113,787    

 

       

        

THE GYMBOREE CORPORATIONCONSOLIDATED STATEMENT OF INCOME(In thousands except per share data)

February 4, 2014 28

   

      Year Ended      February  2,

2013    

Year Ended      January 28,      

2012  Net sales:

 

     

 

   

 Retail

   $ 1,234,993         $ 1,164,171    Gymboree Play & Music

    23,941          13,885    Retail Franchise

    16,730          10,232    Other

    -              -       

 

      

       Total net sales

    1,275,664          1,188,288    Cost of goods sold, including buying and

occupancy expenses     (794,272)         (728,346)   

 

      

       Gross profit

    481,392          459,942    Selling, general and administrative

expenses     (411,742)         (380,141)   Goodwill impairment

    -              (28,300)   

 

      

       Operating income (loss)

    69,650          51,501    Interest income

    177          168   Interest expense

    (85,640)         (89,807)   Loss on extinguishment of debt

    (214)         (19,563)   Other (expense) income, net

    (12)         (109)   

 

      

       (Loss) income before income taxes

    (16,039)         (57,810)   Income tax benefit (expense)

    5,636          6,626    

 

     Net (loss) income

    (10,403)         (51,184)   Net loss attributable to

noncontrolling interest     2,561          5,839    

 

      

       Net (loss) income attributable to

The Gymboree Corporation    $                   (7,842)        $                 (45,345)   

 

      

       

Ratio Analysis Post Merger Pre

Merger

• Tangible Equity ($1,078 million) $433 million

• Stated Equity $441 million $438 million

• Cash $ 33 million $257 million

• Operating Cash Flow $ 73 million $176 million

• Gross Profit Margin 38% 47%

• Net Income Margin (.08%) 10%

• Interest Expense $85 million $243 thousand

• IBD/Equity (Tangible) 2.57 0

• Times Interest Earned .81 677

• Retained Earnings ($76 million) $239 million

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Going Forward• Agent and Surety need to fully

understand the game plan– Intent and strength of the investor– Duration of the investment– Exit strategy of the investor– Outside factors to be aware of

• Tax law changes• Environmental, Safety, Homeland

Security

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The Future of Private Equity

Average U.S. buyout fund performance has exceeded that of public markets for most vintages for a long period of time. The outperformance versus the S&P 500 averages 20% to 27% over the life of the fund and more than 3% per year. Average U.S. venture capital funds, on the other hand, outperformed public equities in the 1990’s but have underperformed public equities in the 2000s.

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Questions• If you do not have the opportunity to

have your question answered during the Seminar, you may contact me directly

– helenlally@westfieldgrp.com – 330-887-8971

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