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Today's Merger & Acquisition Environment for PEOs
John R. Hammett
Managing Director, Head of M&A
Cherry Tree Securities
© Cherry Tree Securities 2
Topics
Historical Transactions
Factors Driving M&A Among PEOs
Valuation Trends
Private Equity Buyers
Key Take-Aways
© Cherry Tree Securities 4
Trend in PEO Deals
Number of PEO Deals
02
46
810
1214
1618
1998 1999 2000 2001 2002 2003 2004
Nu
mb
er o
f D
eals
© Cherry Tree Securities 5
Trend in PEO Deals
Number of PEO Deals
02
46
810
1214
1618
1998 1999 2000 2001 2002 2003 2004
Nu
mb
er o
f D
eals
© Cherry Tree Securities 6
Trend in PEO Deals
Number of PEO Deals
02
46
810
1214
1618
1998 1999 2000 2001 2002 2003 2004
Nu
mb
er o
f D
eals
© Cherry Tree Securities 7
Trend in PEO Deals
Number of PEO Deals
02
46
810
1214
1618
1998 1999 2000 2001 2002 2003 2004
Nu
mb
er o
f D
eals
© Cherry Tree Securities 8
Three Significant Activities
TeamAmerica – VSource deal falls apart
Gevity HR buys• Remnants of TeamAmerica
• TeamStaff
• EPIX
Two new announced acquirers:• PML North America
• Encore Professional Employers
© Cherry Tree Securities 9
Who's Merging?
Date Seller Type of Business Buyer TypeSep-04 InSource Business Strategies Regional outsourced HR Encore Professional Employers Strategic
Aug-04 Carolina Professional Employers Regional PEO Encore Professional Employers Strategic
Jun-04 Pacel Corporation National PEO Investment by Compass Group Financial
May-04 YourStaff Solutions Regional PEO Pacel Corporation Strategic
Mar-04 EPIX National PEO Gevity HR Strategic
Nov-04 TeamAmerica (bankruptcy) National PEO Gevity HR Strategic
Nov-03 TeamStaff National PEO Gevity HR Strategic
Sep-04 Gevity HR National PEO Investment by Frontenac Financial
Sep-03 E3 Group Regional PEO TriNet Strategic
Jun-03 Advantage Enterprises Regional PEO Pacel Corporation Strategic
Jun-03 American HR (Certified Svcs.) Regional PEO StaffAmerica Strategic
Jun-03 ProBusiness Services Outsouced HR ADP Strategic
Jun-03 Advantage Enterprises Regional PEO Pacel Corporation Strategic
Jun-03 World Wide Personnel Services Regional PEO PML North America Strategic
Jun-03 United Personnel Services of Maine Regional PEO PML North America Strategic
May-03 Asmara, Inc. Regional PEO Pacel Corporation Strategic
Apr-03 HealthStaff International Regional PEO Aampro Group, Inc. Strategic
Apr-03 Advantage Employer Services Regional PEO The Nelco Companies Strategic
Mar-03 Minority investment in Gevity HR National PEO Frontenac Private Equity Financial
Mar-03 Undisclosed PEO Regional PEO Nelco Strategic
Mar-03 Interpay, Inc Payroll Services Paychex Strategic
Feb-03 MediaBus Net (reverse merger) Public Shell Presidion Solutions Financial
Date Seller Type of Business Buyer TypeFeb-03 Advanco Regional PEO Workforce Solutions Strategic
Feb-03 Accord Human Resources, Inc. Regional PEO Imaging Technologies Strategic
Dec-02 National Employment Alternatives Regional PEO Trident Systems Strategic
Dec-02 Undisclosed PEO Regional PEO Pacel Corporation Strategic
Nov-02 StaffAmerica National PEO The Cura Group Strategic
Oct-02 BeneCorp Business Services Regional PEO Pacel Corporation Strategic
Oct-02 Aampro Group, Inc. Regional PEO Trident Systems Strategic
Sep-02 Advantage Payroll Services Payroll Services Paychex Strategic
Sep-02 Undisclosed PEO Regional PEO Pacel Corporation Strategic
Sep-02 Undisclosed PEO Regional PEO Pacel Corporation Strategic
Aug-02 PEO-USA Regional PEO The Nelco Companies Strategic
Jul-02 Meridian Regional PEO StaffAmerica Strategic
Mar-02 The Frick Company Regional Outsourced HR TALX Corporation Strategic
Mar-02 Enstructure, Inc. Regional PEO Imaging Technologies Strategic
Mar-02 Group 4 Regional PEO TEAM Mucho Strategic
Feb-02 Inovis Regional PEO TEAM Mucho Strategic
Feb-02 Strategic Staff Management Regional PEO TEAM Mucho Strategic
Jan-02 Corporate Staffing Concepts Regional PEO Team Staff Strategic
Jan-02 Amfinity Business Solutions Regional PEO Presidion Solutions Strategic
© Cherry Tree Securities 11
PEO History From a Dealmaker's Perspective
Start-up & rapid expansion phase:Low-cost of entryPowerful business modelUnpenetrated marketsInsurance arbitrage promised profitsEasy insurance market
© Cherry Tree Securities 12
PEO History from a Dealmaker's Perspective
Health-insurance wave:Tempting self-insurance margins lead to exposure
that kills many PEOsOr drives them to merge with others
© Cherry Tree Securities 13
PEO History from a Dealmaker's Perspective
Workers' Comp Wave ITempting self-insurance margins lead to exposure
that kills many PEOsOr drives them to merge with others
© Cherry Tree Securities 14
PEO History from a Dealmaker's Perspective
Workers' Comp Wave II:Major comp insurers pull out of PEO
underwritingKills more PEOs Or drives them to merge with othersOr drives them to seek stronger financial partners
© Cherry Tree Securities 15
PEO History from a Dealmaker's Perspective
Scale and Specialty-Driven PhaseEconomies of scale favor larger PEOsWorkforce specialization drives higher margin
• Medical – technical – professional specialists• Traditional labor specialists with industry
concentration
Winners will be big regional, national, and specialist firms
© Cherry Tree Securities 17
Valuation Trends
Definitions: Enterprise Value (EV) (value without regard to debt, equity, or cash)
= Market Capitalization (equity), plus debt, minus cash
EBITDA (approximate cash flow before financing or taxes)
= Earnings before interest, taxes, depreciation, amortization
EV/EBITDA = price or value / earningsEV/WSE = price or value per Worksite Employee
© Cherry Tree Securities 18
EV/EBITDA Trends
Company Value Trends
0.00
2.00
4.00
6.00
8.00
10.00
12.00
14.00
16.00
Administaff Presidion Gevity HR
Val
ue
to E
arn
ings
(E
BIT
DA
)
2003
2004
© Cherry Tree Securities 19
EV/WSE Trends
Enterprise Value per Worksite Employee
-500
1,0001,5002,0002,5003,0003,5004,000
Val
ue 2003
2004
© Cherry Tree Securities 20
Valuation Trends
Enterprise Value per Worksite Employee
-500
1,0001,5002,0002,5003,0003,5004,000
Val
ue
2003
2004
Team Staff Deal
EPIX DealDeal Range
© Cherry Tree Securities 21
Valuation Trends
Gevity Deal Price per Worksite Employee
$0
$250
$500
$750
$1,000
$1,250
TeamAmerica TeamStaff EPIX
© Cherry Tree Securities 22
Today – 3 Markets
Strategic – high valuePublics valuation range ~ $3,000 / WSEBuying strong PEOs at ~ $1,000 / WSEat or below 4 to 6 times EBITDA
Strategic – bottom feederLarge, medium, & small buying weak PEOs cheaply
Private Equity Firms (financial buyers)Buying at 4 to 6+ times EBITDA
© Cherry Tree Securities 24
Private Equity Firms
Invest from a fund of capital From $50 million to $ billions Raised from insurance companies, pension funds,
endowments, wealthy individuals
© Cherry Tree Securities 25
Private Equity Firms
Today: over $100 billion in uninvested capital We estimate about 1,500 to 1,800 funds in USA Cherry Tree tracks about 900 of them
• Industry specialists• Generalists• Deal size ranges
© Cherry Tree Securities 26
Value from Fund's Perspective
Value = expected total cash returnOver an expected holding period of 3 to 7 years
© Cherry Tree Securities 31
Private Equity Value Drivers
Predictability of future cash flows Strong management that will stay (for awhile) Demonstrated operating history of earnings
Growth potential Demonstrated historical growth Strong industry and macro growth trends Ability to grow without working capital or physical assets
Exit opportunity Strategic or bigger financial buyer willing and able to buyOr an IPO
© Cherry Tree Securities 32
Private Equity Deal Structure
Objective: match price and payments to minimize riskPortion in cashPortion in subordinated notes
• (seller or institution)
Portion in share of future earnings (earn-out)Re-invested equity from sellers (10% to 40%)
© Cherry Tree Securities 33
Private Equity Triage
To private equity firms, you are either:1. A platform
2. A tuck-in
3. Or an Exit
© Cherry Tree Securities 35
Key Take-Aways
1. PEO is an active M&A marketplace Deals are fewer, but quality is better
2. Macro trends are continuing to drive consolidation Small firms can't get the insurance at a good price; service demands are
increasing Economies and service capabilities of larger firms drive their value higher
than smaller ones
3. Owners need to be either a buyer or a seller in the next 3 years
4. Strategics will buy at the bottom – or in the middle of the range
5. Certain Financial buyers will buy profitable PEOs if they believe in management, growth, and an exit