Guns lose favor with private equity as shooting victims multiply

Gun companies were once big business for private equity firms.

But the mass shootings of recent months and years have caused the sector to lose favor with many sponsors, which cite reasons including the public outcries after the attacks; pressure from limited partners, including public pension funds; concern for socially responsible investing, and increased weapons-industry regulation.

Sales of guns and ammunition have increased an annualized 6.5 percent since 2011 to $15.8 billion, data from IBIS World show. The research firm credited the sector’s growth to fears of more restrictive gun-control laws.

Shares of gun makers have also gained. Two of the three biggest gun makers, Smith & Wesson and Sturm Ruger, saw their shares surge after a gunman entered an Orlando, Florida, nightclub on June 12, killed 49 people and wounded more than 50. At this writing, Smith & Wesson is up 34 percent and Sturm Ruger has gained 17 percent since the Orlando massacre.

The violence is hard to ignore. In December, two assailants, a married couple, entered the Inland Regional Center in San Bernardino, California, killed 14 people and wounded 22. Before that, one of the most notorious, and heartbreaking, attacks occurred in late 2012 when a gunman killed his mother and then entered the Sandy Hook Elementary School in Newtown, Connecticut, and shot 20 children and six adults.

Connection to PE

Both Orlando and Sandy Hook have some connection to PE. Adam Lanza used an AR-15-style Bushmaster semiautomatic rifle at Sandy Hook. One of the assailants at San Bernardino used a DPMS AR-15 semiautomatic rifle, a spokeswoman for the Bureau of Alcohol, Tobacco, Firearms and Explosives said. Remington Outdoor, a portfolio company of Cerberus, owns the Bushmaster and DPMS brands.

Gun issues are also roiling the courts. In mid-June a judge in Bridgeport, Connecticut, heard arguments about whether Remington Arms can be held liable for selling the semiautomatic rifle used in the Sandy Hook attack.

The plaintiffs — family members from victims at Sandy Hook — said the company knew the rifle was meant for military purposes and was too dangerous to sell to civilians. Remington’s attorneys argued, among other things, that a federal law shields the industry from such liability and that decisions about gun ownership and related matters should be made by legislators, not the courts.

And the issue is international, exemplified by, among other situations, the terror attacks on civilians in Paris and Nice in November 2015 and mid-July 2016 respectively.

The violence has cast a pall on the gun sector. David Fann, president and CEO of TorreyCove Capital Partners, said that some contrarian value buyers could probably make a case to invest in gun makers. “That said, it’s a challenging investment for any private equity firm with public pensions or socially conscious limited partners,” he told Buyouts.

One LP, who declined to speak on the record, said guns should be listed, like gambling, prostitution and cigarettes, as not compliant with socially responsible investing.

“Family offices that back assault weapons, etc., should be picketed,” the LP said. “Hunting rifles, etc., are different. … Clearly, those firms that back manufacturers that appeal to the worst instincts of man are essentially promoting slaughter in the streets.”

A placement agent said gun makers aren’t the only harmful companies around. The agent said he would hesitate to invest in gun makers, not because they are intrinsically bad but because of the optics. “One could argue that soda companies and candy companies, which are driving obesity in the U.S. and around the world, are just as deadly if not more so,” the placement agent said. “Are these SRI-compliant?”

Boom time

Ten years ago, PE investments in gun-related companies were more common. Wind Point Partners bought Bushnell in 1999 and sold it in 2007 to MidOcean Partners. In September 2013, Alliant Techsystems acquired Bushnell, which makes gun accessories like rifle scopes, for $985 million, from MidOcean.

Private equity also owned the legendary gun maker Colt Defense LLC.

Sciens Capital Management took control of Colt in 2005, according to press reports. Sciens, a PE firm, owned 53.5 percent of Colt as of Dec. 31, 2010, while Blackstone Group had a near 24 percent stake and Credit Suisse owned 9.2 percent, a November 2011 regulatory filing said. The three firms still owned their stakes in Colt as of late 2012, the time of the Sandy Hook massacre, press reports said.

Blackstone sold its stake back to Colt in March 2013, just months after Sandy Hook, according to a November 2014 SEC filing.  Blackstone acquired Strategic Partners, the CS unit that invested in Colt, in 2013. A Blackstone spokeswoman confirmed the firm sold its Colt shares in 2013. Strategic Partners also sold its Colt Defense stake to Sciens before its sale to Blackstone, the spokeswoman said.

Colt filed for chapter 11 in 2015 after reportedly losing a government contract. The West Hartford, Connecticut, firearms maker emerged from bankruptcy in January.

Sciens had tried to buy Colt out of bankruptcy but failed after defaulting on a $15 million funding commitment, the Wall Street Journal reported in January. Colt’s bondholders, which include Bowery Investment Management LLC and Phoenix Investment Adviser LLC, currently control Colt, press reports said. Sciens and Colt did not return calls for comment.

Three-headed dog

One of the more famous private equity gun deals is Cerberus’s investment in Remington Outdoor/Freedom Group.

Cerberus began building Freedom Group when it acquired Bushmaster in 2006. The firm used Cerberus Institutional Partners Series IV LP, which closed on $6.5 billion in 2006, to invest in the company. It then acquired Remington in May 2007. Later deals included the firm’s acquisition of Marlin and Defense Procurement/ Manufacturing Services, or DPMS.

Public outcry over Sandy Hook caused Cerberus to put Freedom Group up for sale. The PE firm claimed it was unable to find a buyer. In May 2015, Cerberus offered to let its LPs sell their stakes in the company, which was now called Remington Outdoor, Buyouts reported. The move came after California State Teachers’ Retirement System and other institutional investors complained to Cerberus about their exposure to the gun maker.

Cerberus pulled Remington out of its PE funds and placed the investment in a separate special-purpose investment vehicle, a source familiar with the transaction said. Remington is owned by Cerberus and those investors — including Cerberus executives themselves, according to press reports — that chose to stay with Remington, the source said.

Cerberus, which would not disclose which investors remained in Remington, declined comment. Remington could not be reached for comment.

A year later, many investors, including CalSTRS and TIAA-CREF, have sold their stakes in Remington. (See table for a list of who has exited Remington and who hasn’t.)

Interestingly, San Francisco Employees Retirement System also exited Remington but still owns stakes, valued at about $1 million, in three firearms producers, pension documents show. These are Orbital ATK, Vista Outdoor and Sturm Ruger.

On June 28, the San Francisco Board of Supervisors urged SFERS’s board to sell the holdings, the documents said. The supervisors made the same request in early 2013 after the Sandy Hook massacre. The Retirement Board, trustees for SFERS, considered the matter on July 13 and will continue talks at a September meeting, spokesman Norm Nickens said.

White Wolf

While many PE firms have sought to distance themselves from gun makers, some firms continue to invest.

Consider White Wolf Capital of Miami. The firm, which doesn’t have a dedicated fund but raises money from a network of investors on a deal-by-deal basis, has done two defense/gun platform deals. One of its platforms, Aero Precision, has completed three add-ons.

Elie Azar, a former Cerberus executive, founded White Wolf in September 2011. White Wolf mainly acquired gun-parts makers until February, when it bought Stag Arms, which is known for making AR-15 type rifles.

Azar said via email that White Wolf sought to invest in gun-parts producers because one of its focuses is manufacturing. Gun hobbyists also buy parts, components and subsystems at a relatively steady rate, he said.

“They are not driven by emotion or the political discourse on guns, which in turn helps to mitigate the effects of the larger industry cycle on our businesses,” Azar said.

Regulation is causing PE to move away from the industry, Azar said. The U.S. firearms sector is one of the most highly controlled and regulated industries in the country, he said. The industry is subject to numerous legal requirements at the federal, state and local levels, Azar said.

Strategics, family offices and high-net-worth individuals are driving M&A in the sector, Azar said. The sector, he said, is highly cyclical with boom periods followed by down cycles.

The intense media scrutiny of gun companies has a “pull forward” effect, he said. Consumers will make purchases in the very short term that they would otherwise have delayed to later, he said.

“At the end of the day, I view the impact of the heated debate on gun control as an exogenous stimulus that doesn’t really help the industry in the long term and, if anything, makes it more challenging to deliver consistent returns,” Azar said.

Action Item: Colt website:

Custom-build AR-15 (M4A1) carbine on a wooden surface. Photo courtesy iStock/Anatoly Vartanov

LPs’ investments in Remington