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Welcome to Episode 63 of Special Situation Investing.
Today we’ll cover Ammo Inc and its announced spin-off of GunBroker.com. Before we jump in, I’d like to reiterate how much we appreciate your growing support for the show and our content. We strive to bring you actionable investing write-ups each week to help you jump-start your own research and based on your growing support we believe that we’re attaining that goal.
Moving right into today’s write up, let’s go through a brief history of Ammo Inc and its CEO Mr. Fred Wagenhals. Mr. Wagenhals first purchased the public company, which later would become Ammo Inc, in 2016. One year later, in 2017, Mr. Wagenhals purchased an existing ammunition manufacturer and placed it within the pubic company to create what we now know of as Ammo Inc. In May of 2021, Ammo Inc completed its acquisition of GunBroker.com, the largest online broker of weapons and firearms with over 7.2mm registered users. Within a year of the GunBroker.com acquisition, Ammo Inc. announced its intention to spin-off the newly acquired company via a tax free distribution to shareholders. The rapid timeline between acquisition and the announced spin-off leaves one wondering if a spin-off was the goal all along with the motivation possibly being to take a private company public via the tax free spin-off structure.
With that brief history out of the way, it would be helpful to discuss the nature of the business and to divide that discussion along the same lines that the company itself will be separated in the near future. Beginning with the legacy ammunition business, Ammo Inc, it is a vertically integrated ammunition manufacturer that seeks to market branded ammunition to both sporting and military markets. The company generated $172 mm in revenue and $35 mm in EBITA in 2022 against a $284 mm market cap. The company has no debt and recently shifted its operations to an improved manufacturing facility that will increase its production capacity. Post spin-off the ammunition manufacturer will be renamed Action Outdoor Sports and will include the whole of the manufacturing and sales operation.
GunBroker.com, which was acquired by Ammo Inc in 2021, is the largest online weapons and firearms brokerage in the United States. The company does not sell any of the weapons on its platform but rather acts as a legal broker to facilitate transactions between third party sellers, think eBay for guns. In 202, GunBroker.com generated $67 mm in revenue and $48 mm in EBITA against Ammo Inc’s $284 mm market cap making it by far the higher margin business. GunBroker.com is also free of debt.
It’s worth touching on a few aspects of the combined Ammo Inc before moving on to try and get a sense of how exactly the companies will be separated. For starters, the company currently employs 359 people of which 276 are in manufacturing, 33 are in sales, 20 work in research and development, and the remaining 30 work in corporate or admin positions. It’s safe to assume that all of the manufacturing employees will go with the spun-out ammunition business along with the employees in sales and most of the research and development department which would indicate that close to 90% of the employees will continue with Action Outdoor Sports. Such a separation of the labor force will leave GunBroker.com with a streamlined cost structure and even higher margins while Action Outdoor Sports will retain the low margin cost structure that comes with a large employee base.
Another aspect of the combined entity which always warrants discussion is insider ownership. The two corporate officers with the highest insider ownership are the CEO and the CFO. Beginning with CEO Fred Wagenhals stake, he owns approximately 7.3 mm shares worth about $18.2 mm and is listed as a 10% holder of the companies stock. Mr. Steven Urvan, Ammo Inc’s CFO, owns approximately 20 mm shares worth about $50 mm and is listed as a 17% owner. Its worth highlighting that Mr. Urvan sold GunBroker.com to Ammo Inc via an investment partnership called Gemini Group in 2021 and was subsequently appointed CFO. GunBroker.com was privately held by Gemini Group and has never been publicly listed.
Now, with all that background out of the way, where do we see opportunity in this spin-off? Put simply, we believe that the higher margin GunBroker.com business offers low double digit upside to investors who purchase the stock post spin. Several factors lead us to that conclusion and they include the following.
Beginning with valuation, we can frame the spin-off through a price to EBITA framework. With a combined GunBroker.com and Ammo Inc EBITA of $85 mm the company currently trades at about 3x EBITA. Assume that post spin-off both entities will trade at 3x EBITA and you quickly find that most of the companies current market cap will be captured by GunBroker.com. GunBroker.com at 3x $50 mm in EBITA would leave it with $150 mm of the current $284 mm market cap and conversely would leave Action Outdoor Sports with only 3x $35 mm or a $105 mm market cap. This split in which entity gets most of the earnings would see an 18% increase in GunBroker.coms share of the EBITA and a corresponding 18% decreased in Action Outdoor Sports portion of the earnings and this shift in earnings is sure to be reflected in the newly separated companies’ market capitalization.
In actuality the difference in valuation could be even more extreme as the market might place a lower EBITA multiple on the high capex, low margin Action Outdoor Sports and a higher multiple on the low margin, low capex GunBroker.com. This, of course, doesn’t need to happen in order to capture the upside in GunBroker.com but its a reasonable possibility that adds to an investor’s margin of safety.
Mr. Wagenhals Aug 2022 spin-off updated letter further leads us to believe that the value in this transaction is in the brokerage business. The letter detailed several items surrounding the spin-off to include the one-for-one nature of the share split along with his plans to lead GunBroker.com as CEO post spin. Typically, management will go with the better business during a spin-off transaction and that is a good indication of where the most value lies. This is even more the case regarding Ammo Inc’s spin-off given that the CEO will leave the business he founded in favor of a business he acquired less than two years prior.
Digging through annual reports and obscure footnotes to research this episode led to an interesting underutilized asset nested within GunBroker.com. Apparently, GunBroker.com can begin to monetize large amounts of non-personally identifiable information post spin-off. The company has access to high fidelity real-time information regarding popular purchases, pricing, and volume that could be converted into a separate revenue stream following the split. The note wasn’t clear as to why the data couldn’t be sold prior to the split but it may have something to do with them owning an actual manufacturer versus a pure brokerage within the same corporate entity. Whatever the reason, maybe this lends further credit to the thesis that the brokerage is where the most spin-off upside can be found.
It’s worth noting that the company does have a preferred stock which trades under the ticker symbol POWWP. The preferred stock is not convertible but is callable. The stock has priority above the common in any bankruptcy proceedings and currently pays a dividend that yields 8.5%. Total dividends payed through the preferred in 2022 came to $2.7mm. Treatment of the preferred stock through the spin-off process has not been explicitly stated but with the company last signaling a February 2023 target date for the spin-off, I would expect an update at this months quarterly conference call. The call is scheduled for the afternoon of 14 Feb 2023 and should, hopefully, clear up the remaining details surrounding the pending spin-off transaction.
There are a variety of ways to take advantage of this spin-off. For starters, you could sell puts on the underlying common stock so that if the puts expire worthless you’ve made something off of the spin-off without ever owning the stock. Or if the puts are exercised you’ve purchased the stock at a lower price than could be obtained through an outright purchase today. You could then sell Action Outdoor Sports post spin and hold GunBroker.com until it’s revalued 10-20% higher at which point you’d sell GunBroker.com as well. This method could be challenging as Ammo Inc options are very thinly traded with wide bid/ask spreads. Conversely, you could wait until after the spin-off and then purchase GunBroker.com alone and wait for the market to reappraise it higher based on its superior margins and business profile.
With that we wrap up Episode 63 of Special Situation Investing. We hope that, once again, you’ve gained some insight into a current and actionable investment opportunity. Please continue to reach out with more comments, questions, and support. The support we’ve received over Fountain via bitcoin boosts has been particularly encouraging and a real motivator to continue to deliver our content.
Ammo Inc spin-out of GunBroker.com