Spectrum Brands Endures Rainbow Of Troubles

Maybe the coming holiday season will perk up battery sales for consumer-goods company Spectrum Brands, but for now the troubled child of Thomas H. Lee Partners is having problems with a more sure-fire means of improving the company’s bottom line—selling off an asset.

To reduce its potentially crushing debt, Spectrum Brands announced its intention to sell what it called a “strategic asset” in the latter part of this year. But last month, citing a frigid credit market, the company yanked the asset off the block until at least next year. Meantime, the company is going ahead with the sale of another of its holdings, the Canadian unit of its home and garden division. Spectrum Brands had tried to sell the entire business last year, but the effort failed.

Spectrum Brands is the Atlanta-based corporate parent of several consumer goods companies, including battery-maker Rayovac Corp., specialty pet supplier Nature’s Miracle, razor supplier Remington Products Company, and weed control supplier Spectracide. The unnamed strategic asset pulled off the market is believed to be the pet division, according to analysts, who also consider it to be one of the company’s most prized properties.

With that sale stalled, analysts and industry observers are speculating whether Spectrum Brands’s highly leveraged position—Standard & Poor’s has a default-prone “CCC+” rating out on the company—makes it ripe for trouble ahead. (Over the last 25 years, more than a quarter of companies rated “CCC+” or below default within a year of attaining the rating, according to S&P.) Spectrum Brands’s stock price has plummeted from $43 per share in 2005 to less than $4 per share at one point last month.

“We see continued challenges with this company,” said Patrick Jeffrey, an S&P director. “But we see signs that things may be stabilizing. …We will look for them to show stabilized operating performance and that they maintain ongoing liquidity to fund their operations.”

Liquidity is definitely a concern. As of June 30, Spectrum Brands carried a debt load of $2.6 billion, about 11x EBITDA, according to analysts with Wachovia Capital Markets. Refinancing that debt at favorable terms is no longer an option, since the same credit crunch that forced the postponement of the asset sale also makes it virtually impossible to renegotiate existing credit agreements. Instead, until the debt markets prove more favorable, the company will have to rely almost solely on a revolving loan tapped last month and on existing operations, which could be a problem.

The company doubled its loss from continuing operations during the quarter ended June 30 and posted an overall loss of $7 million for the period, down from a profit of $2.5 million a year before. This was after consistently falling short of earnings projections in 2005 and 2006, according to analysts. “While [Spectrum] is looking toward asset sales for some debt relief, the company can still not afford to miss numbers as it has done so many times in the past,” the Wachovia analysts wrote in a research note.

Robin Weinberg, a spokesperson for Thomas H. Lee Partners, said that Rayovac’s weak battery sales are at the heart of Spectrum Brands’s recent stumbles. And analysts are mixed about whether Rayovac will fare well this holiday season. Battery sales, which represent about 34 percent of Spectrum Brands’s total revenue, have been hurt by inventory destocking among U.S. retailers and by soft consumer spending levels in Europe, according to S&P. Rayovac ranks behind competitors Duracell and Energizer in sales.

On a positive note, Spectrum Brands tapped a $225 million revolver established in March to help with its liquidity challenges. Also, after a period of declines, second quarter battery sales rose slightly over the previous year’s comparable period. Willam Chappell, an analyst for SunTrust Robinson Humphrey, wrote in a research note that Spectrum Brands is generating enough cash to remain “well within its covenants.”

With some qualification, Wachovia’s analysts agreed, predicting that the “worst is likely behind the company.” In a testimony to investor ambivalence toward the company, however, the Wachovia analysts underlined the word “hopefully” in their research note when writing about whether Spectrum Brands’s recent efforts to right the ship would bear fruit against the backdrop of its significant debt overhang.

Victoria Hofstad, a spokeswoman for Spectrum Brands, said the company’s prospects are bright. “We think there is real value in the company,” she said. “Our operating businesses are improving, and they all generate good cash flow. We have made real progress this year in positioning Spectrum Brands for future value creation.”

Thomas H. Lee Partners, a Boston shop that has about $20 billion under management, holds approximately 12.5 million shares in the company, equivalent to 22 percent, even though the buyout firm had squeezed out a generous 4x gain from an unrelated investment in Rayovac in 1996 when the firm acquired the company for $326 million. The next year, the firm took Rayovac public, and by August 2002 had sold all of its shares for a total of $301 million.

But Thomas H. Lee Partners’s second deal involving Rayovac hasn’t gone as well. The second transaction traces it roots to 1999, when the LBO shop acquired United Industries, a garden fertilizer and pesticide manufacturer, for $652 million, funneling $255 million in equity into the deal. By 2004, after overseeing a string of acquisitions, the firm had poured $325 million cash into the company, although the next year it pulled out $90 million, leaving $235 million invested.

In 2005, as part of Thomas H. Lee Partners’s exit strategy from United Industries, the firm returned to the Rayovac well and orchestrated a $1.4 billion merger with its former portfolio company. The combined company was named Spectrum Brands and the additional lines of business—pet supplies and home and garden goods among them—added diversification to offset the declining battery sales that formed the company’s core business. But to create the diversified company, Spectrum Brands’s various units took on the debt that now eats up earnings. Soon after the merger, the stock price began its long descent. Due to the dramatic drop in the share price in the last two years, Thomas H. Lee Partners’s remaining equity is valued at less than $60 million, given that Spectrum’s market cap hovers at around $225 million. That leaves Thomas H. Lee’s investment underwater by $175 million.

To help right the ship, Spectrum Brands in May tapped Kent Hussey, formerly the president, to take over as CEO. Hofstad, the company’s spokesperson, said Spectrum Brands also is also beefing up marketing and pricing initiatives, developing new products and aggressively reducing costs. “We are confident in the future of the business,” she said.