Description

Investment Overview:

APi Group (APG) has been written up twice before on VIC but both previous pieces corresponded with very different opportunity sets as there has been significant change at the Company (and to the story) since then. While the first write up did discuss the unique strengths of the business, it was focused more on the near-term set up given distinct dynamics associated with APG’s entry to public markets (an illiquid, UK SPAC). The second write-up in mid-2021 was more of a brief overview of the business and management’s ability to grow via M&A. Since then, however, APG has announced a massive acquisition of an international business (Chubb) that had been a neglected asset within Carrier. The combination of the two companies will result in the largest statutorily driven Life Safety player across the globe with a plethora of opportunities to drive revenue synergies across existing business lines, close the margin gap across units, expand into new adjacencies, and continue the M&A growth algorithm, while ultimately creating an unmatched international platform. Given the market’s doubts on these points, APG continues to be a misunderstood company trading at a discount to both public market and private market peers.

Brief Segment Overview:

Safety Services (~70% of FY22 revenues and ~68% of adj. EBITDA): APG provides design, installation, inspection, monitoring, and other services for life safety systems (e.g. fire sprinklers, alarms, extinguishers) in a number of geographies. Following the acquisition of Chubb, APG now has a footprint in North America, Europe, Australia, and APAC and is the largest life safety services firm globally. The Company serves a highly diversified end market with an emphasis on recession resilient (e.g. telecom) as well as secularly growing (e.g. data center) industries. The core focus for Safety Services is on growing statutorily-mandated, non-discretionary inspection, service and monitoring revenue.

Specialty Services (~30% of FY22 revenues and ~32% of adj. EBITDA): Provides infrastructure services including maintenance, repair, design, fabrication, and installation of critical infrastructure such as underground electric, gas, water, sewer, and telecommunications infrastructure. Importantly, like the Safety Services segment, Specialty Services also serves very resilient end markets with nearly 40% of revenues tied to the telecom / utilities sectors. Within its pipeline work, APG emphasizes integrity services which are statutorily required while actively avoiding the new capital component of this end market.

(Note that segment reporting recently changed to consolidate the prior Industrial Services division within Specialty Services.)

The overall goal across the entire business is to emphasize regulatorily / statutorily / mission critical driven services work across healthy end markets. As such, inspection, service, and monitoring revenue now represent ~50% of total revenues with APG targeting a goal of 60% by 2025. This strategic shift to a recurring revenue services model has been in place since ~2009/2010 and our conversations with CEO Russ Becker indicate that this was a result of a complete mentality change following the GFC. APG realized it no longer wanted to be as heavily exposed to more cyclical new construction / installation work and the emphasis on mandated services revenue began.

It is also worth clarifying that although Specialty is a contributor, APG’s primary focus is on growing recurring revenue within its Safety Services segment.

Thesis / Catalysts:

• Differentiated go to market approach emphasizes an underappreciated mix shift to recurring, statutorily driven revenue
  • Due to APG’s short life as a public company, historical business mix, and industry categorization, the market has mistakenly viewed and valued the Company as more of an E&C business subject to the cyclicality of new construction. In reality, as noted above, the Company’s strategy emphasizes recurring services work driven by regulation. Accordingly, between 2011 and 2019 APG has grown its organic revenues at a 7% CAGR (15% including M&A) by emphasizing inspection work that management believes then pulls in $3-4 of additional service revenue in the future. It’s likely that organic growth has been even faster within the higher quality Safety Services segment vs TotalCo organic performance. In fact, APG’s entire approach to the life safety market is completely differentiated vs peers. Most competitors lead with their installation work to win service revenue but APG leads with a large inspection sales force that is actively out in the market trying to win new business and displace existing providers. This sales-first GTM allows the Company to focus on winning recurring, statutorily mandated business while most other firms, instead, chase low margin installation work, lured by the larger $ price tag associated with these jobs. APG’s goal is to grow inspection, service, and monitoring revenue by 10% annually, which they have been successful in doing in each quarter since this KPI was publicly highlighted. As noted, this should then lead to $3-4 of additional servicing opportunity down the line. Importantly, this mix shift also comes with greater profitability as inspection + service revenue and monitoring revenue generate ~10% and ~20% higher gross margins, respectively, vs contract revenue.
  • The acquisition rationale for Chubb also revolved around this theme of growing statutorily driven services. At the time of acquisition, APG’s total services revenue sat slightly above 40% while Chubb was closer to 60%. Post transaction, the combined Company now counts services as representing over 50% of its total revenue and the synergy potential of the global platform will only grow this mix. Based on company disclosure, we estimate that 40% of Chubb’s total revenue and ~65% of its services revenue is tied to sticky, multi-year service contracts. Below we discuss the upside potential from the merger with Chubb in greater detail, but, fundamentally, a central underpinning of the rationale behind the transaction was implementing a selling culture that leads with inspection. Like APG’s other competitors, Chubb had historically focused on reaping service work from its installed base as opposed to winning new business and lacked the proper infrastructure to approach sales in the same way as APG. As this transition occurs, we expect Chubb’s overall organic growth to pick up meaningfully from its poor historical levels.
  • Future M&A will also have a keen focus on fueling a transition towards services work while simultaneously improving the sales organization / selling culture.

• Misconception around cyclicality and business model leads to poor understanding of underlying FCF generation capabilities
  • Since becoming a public company, APG has announced an 80% adj. EBITDA to FCF conversion target that it has a mixed history in achieving. However, the market’s lack of comfort and experience with APG’s business model closely ties to a poor understanding of the businesses’ ability to generate cash, particularly in a downturn. For example, despite commercial building closures of every kind during COVID (i.e. there were no active fire / life safety concerns with no people in these buildings), the statutory nature of APG’s business required inspection and service jobs to still be performed. This was ultimately reflected in a modest 10% hit to Safety Services organic revenue growth in 2020 despite a much higher % of commercial buildings required to be completely shut down. Since then, APG’s services mix has only increased further (from ~40% to greater than 50% today), improving the Company’s resiliency to future downturns. Even more importantly though, is that despite the hit to organic growth, APG was still able to benefit from a significant working capital release that resulted in GAAP FCF increasing nearly 100% y/y and adj. FCF increasing ~32% y/y. Growth was enabled by better accounts receivables and contract asset collection relative to the revenue decline, better cash management, and reduced, but already inherently low, capex requirements. Based on our understanding, APG similarly generated positive FCF through the GCF. This ability to generate cash in downturns has helped weather storms of every kind and enabled self-financed growth, particularly through accretive M&A during times of market dislocations. We discuss the Company’s M&A flywheel in greater detail below.
  • Conversely, when growth is accelerating the company does need to invest in WC to support this future revenue. Conversion, then, naturally ticks a bit lower. This pattern helps to explain the volatility seen between 2020 adj. FCF conversion of 116% followed by a drop to 55% in 2021 as business sharply rebounded. In FY22, APG’s conversion will similarly be below its 80% target but, notably, above FY21 levels as organic growth has continued to remain meaningfully elevated above the Company’s 5-7% target. In 2022 there were of course additional one-time supply chain headwinds in play that also had to be worked through and further weighed on conversion. As the market better understands these dynamics, investor concern around cash generation will dissipate.
  • At the Company’s latest investor day in November, management very helpfully highlighted a range of expected conversion levels based on organic growth:
    • Organic revenue down 5%: 90%+ conversion
    • Revenue flat: 80-85% conversion
    • Revenue up 5-7%: 75-80% conversion
    • Revenue up 10%: 65-75% conversion
    • Recall that APG’s historic organic growth since 2011 has been right around the 6-7% level and that the business has a nearly 100-year history in managing through multiple cycles. As such, management’s 80% FCF conversion target is derived from an in depth understanding of the business and a long operating history. Furthermore, these favorable cash dynamics need to also be framed in the context of helping fuel growth over the course of the Company’s private history. Healthy cash flow has enabled APG to scale via self-funded acquisitions and Becker, who has been CEO for over 20 years, has personally overseen 90+ deals. Finally, the Company’s continued transition to a services business model should only further improve its WC and capex requirements and underlying ability to generate FCF. 

• Synergy potential with Chubb much higher than management guidance and street expectations, resulting in conservative FY25 targets
  • I won’t go into a ton of detail on Chubb as a standalone asset but would very much recommend taking a close look at management’s rationale for the acquisition. Said simply, they view Chubb as a “center of the fairway” transaction and a sized up version of the countless deals that they have done over the course of their history. Although Chubb is certainly more complex than anything they have undertaken in the past, there is a ton of operational bloat that can be cut to transform Chubb into a replica of APG.  
  • In total, management is targeting $100mm in value capture at Chubb by the end of FY25, categorized in the following buckets: 1) Restructuring, 2) Branch & Footprint Optimization, 3) Attrition Improvements, and 4) Country & Branch Optimization. Some of these buckets have been quantified by the Company (e.g. $30-35mm from Restructuring in 2022 as well as another $30-35mm in 2023) while others have not. However, we have attempted to break each of these opportunities down further by comparing Chubb’s operating performance with that of APG and assuming the gap between the two companies starts to close by 2025. We also make other assumptions when necessary to arrive at our estimates. This is shown and explained below:
    • Restructuring: The significant majority of the cost takeout associated with restructuring will largely be tied to G&A above the branch level. Management has repeatedly noted that Chubb was a bloated organization with too many layers between corporate and the “men and women in the field”. In our conversations with management, they have noted that Chubb operated with 3 or 4 layers of leadership between country MDs and those in the field, whereas APG operated at about half that level. This is seen in a number of operating metrics including revenue per employee and adj. EBITDA per employee, both of which meaningfully trail APG. Based on FY21 financials (we still need an updated employee count for FY22) APG’s revenue per employee / adj. EBITDA is currently 57% / 64% higher than Chubb’s FY22E levels. Normalizing operating performance between both companies suggests $70-$90mm+ in additional savings compared to the $30-35mm management has targeted for next year. Given a lack of complete information, we are simplifying some variables to arrive at our estimate but would urge focusing on the magnitude of the gap between our estimates and management’s vs the precise figures. By FY25 management is targeting 15% adj. EBITDA margins at both Safety Services and Chubb, implying similar cost structures, greater efficiency at the latter, and meaningful room for revisions to current estimates.

• • • • Additionally, the Company’s ~$60-70mm takeout opportunity is a projection for only 2022 + 2023 with no benefits outwardly contemplated in the final two years of the guide. We view the takeout opportunity from Restructuring as very meaningful and understated by management.
      • Estimate: $100mm. ($60-70mm management estimate)
    • Branch & Footprint Optimization: APG is looking to close down or consolidate ~10 locations in FY22 with additional footprint consolidation next year. This category is a little harder to quantify as there is not a lot of information to work with so we assume a conservative $3-5mm range.
      • Estimate: $4mm. (No management estimate)
    • Attrition Improvements: APG is targeting a MSD-HSD attrition rate between FY23-25 by reducing attrition ~2%. This implies that current attrition is likely around 8-10% and per management’s disclosure Chubb spent $40mm in 2021 for identifying, hiring, onboarding, and retaining employees.

With this information we then attempt to back into the $ savings from attrition improvement. For instance, in % terms, the 200bps reduction in attrition is roughly worth 20-25% of the $40mm total, or $8-10mm.

• • • • Estimate: $9mm (no management estimate)
    • Country & Branch Optimization: The opportunity in this bucket is twofold: 1) exit markets that are unprofitable (low hanging fruit) and 2) raise the performance of $500mm worth of lower/mid quartile businesses to top quartile units. Based on where management expects to exit FY22, we can expect ~$18mm in savings next year just from shutting down unprofitable operations. Category 2 requires us to make some assumptions around the range of adj. EBITDA margins across Chubb (we assume 7-17%) and the uplift from taking $500mm worth of business from the average of the bottom 50% to the top quartile. Using this range, the bottom 50% average margin is 9.5% while the top quartile is 15.75%. On $500mm worth of business this equates to ~$31.5mm in value capture.
      • Estimate: $49.5mm ($18mm management estimate, all tied to bucket 1)

• • Total opportunity: $30-35mm in FY22 Restructuring + $70mm in FY23-25 Restructuring + $4mm in Branch & Footprint Optimization + $9mm in Attrition Improvements + $49.5mm in Country & Branch Optimization = ~$162.5-167.5mm in total synergies. Even if you assume that our $70mm in FY23-25 restructuring is too bullish and use management’s $30-35mm guide, the total synergy range would instead be: $122.5-132.5mm. Again, we view Chubb as a quality asset with great brand recognition but one that was heavily neglected within Carrier. We believe management is setting up a beat and raise on synergies as well as its FY25 adj. EBITDA margin target of 13% (discussed further in valuation section).

(The company subtly notes "more opportunities to come" in its 2022 Investor Day presentation when discussing value capture potential)

• Organic improvement at Chubb and platform potential via industry leading scale
  • During the latest investor day management disclosed that Chubb’s organic growth for the five years pre-COVID was 0%, underscoring the lack of investment the asset received. Under the APG fold, though, this has already started to quickly change. For example, after just two quarters under APG's ownership, Chubb’s organic growth has now flipped positive. YTD, Chubb has reported organic growth of 3% as a result of pricing improvements and management expects a 5% benefit from price as we head into 2023. If we assume that management started taking price in 2Q22 (first quarter where they cited organic growth at Chubb), the 7% net revenue growth in 3Q suggests Chubb is also seeing an improvement in volumes at a healthy ~4% clip. Through the combination of price, salesforce optimization, pushing into new high growth verticals (e.g. data centers, pharma, critical national infrastructure), connected services, and applying the APG focus on leading with Inspection & Service, management is targeting gross organic growth of 8-9%. In another sign of how poorly Chubb was run, the Company expects a 4-5% impact to this gross organic target as a result of disciplined project and customer selection, netting out to organic growth of 3-5%. Essentially, there are existing customer contracts that are unprofitable, and thus a headwind to EBITDA, and need to see price increases or will have to be churned completely. 3-5% net organic growth seems like a modest and reasonable target given the changes to pricing and the selling culture that are to come. For instance, Chubb had not previously segmented and verticalized its salesforce based on end markets or industries, instead opting for a one size fits all approach to selling. There was also no real infrastructure to support a sales team in the way that APG provides its legacy business. All of that is now changing.

• • In the same vein, Chubb has recently hired a new VP of Global Sales (Rabih Najjar) who has nearly a decade long experience at Vertiv, which fits very well with the overall approach to push into the data center end market. Importantly, Vertiv was previously part of Emerson Electric where it was known as Emerson Network Power before being sold to Platinum Equity in 2016. Chubb’s newly hired CEO (Andrew White), previously worked at Emerson and is likely familiar with Rabih to some degree. We think alignment between the CEO and VP of Sales is the exact kind of culture / atmosphere that will help drive future organic performance and enable an inspection first sales approach.  

• Chubb also added add a number of unique growth elements to the APG story that should promote 1) cross-selling and 2) the introduction of new adjacencies. Although management has not quantified what the revenue synergy potential looks like, there was helpful discussion and slides from the investor day that show where these opportunities will come from, particularly on cross-selling. Simply put, there are a number of muti-national clients that are served by either APG or Chubb depending on geography. These are all clients that present opportunity for new business by virtue of consolidating service providers and include large, household names such as: Google, Walmart, Bank of America, AWS, Hermès, Uber, Target, LinkedIn, Disney, and many more. As it relates to new adjacencies, roughly 39% of Chubb’s existing business is related to Electronic Security¸ a subsegment of Life Safety that APG has had minimal prior exposure too. Similarly, Portable Fire Extinguishers represented ~15% of Chubb’s revenue while representing a smaller proportion for legacy APG. On the other hand, APG does a lot more sprinkler related work within fire safety that can now be ported to Chubb. Although I view new adjacency growth as a bit more long-term given the more immediate need to first clean up Chubb, there are early signs that this potential is real. A long time Chubb client based in Europe, for example, has started to open locations in the US and recently began a dialogue with APG regarding potential security opportunities such as intrusion detection, access controls, CCTV, and monitoring. Zooming out from a specific example, it is perhaps even more instructive that the inherent necessity of both fire safety and security makes the combined offerings very complimentary. Most, if not all, of APG and Chubb’s fire alarm and fire suppression customers will also be buyers of security systems. I believe this idea was subtly reinforced by Becker’s comments at the Investor Day where he noted “So if you look at, say, our core business versus Chubb's business, all right, they were built, they're this branch-led model, it works. It's like it doesn't matter. It's agnostic about the services that are being provided.” The services themselves are “fungible” within APG’s branch-based approach and the Company should be able to push new services through the system relatively easily. And since APG places a much larger emphasis on services vs competitors that are drawn to higher price tag installation work, it is in a prime position to slowly win market share and displace incumbents that view inspection business as non-core. Finally, the network density that the combined business has already built and will continue to grow via future M&A, creates economies of scale and distribution advantages to cost-effectively push through new offerings.  

(Boxed segments indicate largely new verticals for APG and represent ~50% of Chubb and standalone Safety Services revenue.)  

• Misunderstood M&A flywheel
  • As a result of the leverage taken on from the Chubb transaction, APG’s acquisition playbook has been on a long pause. Management has noted that they are not interested in acquiring the mid to large sized platforms that are trading for north of 15x EBITDA in the private markets and will instead avoid auctions and use their network to buy subscale players for somewhere between 4-7x LTM EBITDA. Importantly, APG has significant prior experience undertaking this strategy as it was built via M&A (over 90 transactions since 2005) and follows a highly decentralized approach to operations. Most tuck-ins retain their branding and management teams while APG really serves as a central hub / platform that benefits from each additional density increasing node within its footprint. The Company also focuses on targets with an EBITDA in the ~$10mm range which necessitates a high velocity of transactions to move the needle. As such, post Chubb integration and debt paydown, management is positioning the Company to consolidate the large number of mom and pop players in the market by enabling an “overnight” M&A flywheel.
  • The attractiveness of this approach is highlighted by the large value creation opportunity that exists given low hanging fruit associated with subscale targets. For example, management’s acquisition playbook calls for the acquisition of businesses at 4-7x LTM EBITDA that are generating ~7% EBITDA margins, significantly lower than APG’s current ~12-13%+ Safety Services margins and LT goal of 15%. Next, management believes it can pull multiple levers over the following 2-years to reach parity on margins with its legacy business:
    • 150bps improvement from purchasing power
    • 150bps improvement from shared services consolidation
    • 200bps improvement from price
    • 300bps improvement from mix shift to services
  • The first 300bps (purchasing power + shared services consolidation) exemplify APG’s potential as a platform that can quickly ingest a smaller firm and immediately raise its margins from ~7% to ~10%. Although price increases are always more difficult to bake in, given APG’s scale, the lack of sophisticated pricing at the local level, as well as the stickiness of the underlying services (i.e. regulatorily mandated), the Company should have some room for improvement here. Finally, the last 300bps is APG’s bread and butter differentiation: leading with inspection work to win future servicing revenue. In aggregate, we believe that APG has an immediate line of sight to 10% margins following an acquisition before undertaking a 2-year trek to 13-15% margins.
  • Executed at scale, this value creation opportunity is massive and management has indicated that by the end of 2023 it aims to begin this flywheel once again. We reiterate that APG’s history was built doing similar M&A, Becker has experience integrating over 90 acquisitions of varying size and geographies since 2005, and that APG’s new CFO (Kevin Krumm) has significant experience in M&A integration having worked on Ecolab’s $8bn acquisition of Nalco. Furthermore, this massive operational value capture uplift says little about the additional arbitrage opportunity that exists by immediately porting a ~7x EBITDA business into one valued at ~10x (potentially higher).

• Aligned owner operator and sponsor
  • Although the investor community seems to have mixed feelings about Martin Franklin, his involvement with the Company has and will continue to be a value add. In our view, APG is a successful investment without Franklin’s backing as we view Becker as a great, hands-on operator and leader. However, bringing together a talented operator with an investor that understands how to unlock value in public markets highlights APG’s unique potential. For example, in our conversations with the Company we have come to better understand both Becker and Martin’s roles in consummating the Chubb transaction. Said simply, the Chubb transaction was a deal that does not get done without Martin’s involvement and connections (e.g. Blackstone and Viking preferred equity) but is not a deal he would consider without Becker. Since APG became a public company, the relationship has been quite symbiotic and the performance and cohesion of the team, particularly through COVID and its entry to the public markets, is telling. Franklin (6.2%), Jim Lillie (2.7%), Ian Ashken (2.6%), and Robert Franklin (0.4%), collectively part of the Mariposa structure, own a combined ~12% of the business. Franklin, Lillie, and Ashken are also all (highly aligned) board members. Becker, on the other hand, owns an additional ~1.3% of the Company and is fully aligned with shareholders.
  • On a go forward basis, we continue to expect that Becker will have full autonomy over the day to day while Franklin and the team are more strategic in their thinking (finding larger acquisitions for new adjacencies, ensuring the M&A flywheel is spinning, optimizing the balance sheet, enabling better capital allocation, closing the valuation gap with peers, potentially selling the Specialty business, etc.).

• Valuation gap vs public and private peers
  • Despite the attractive qualities of APG’s underlying business (recurring, statutorily mandated services), APG’s current valuation of ~9.5-10x NTM EBITDA stands in contrast to a mix of peers that trade in the low-teens or higher. Similarly, there have been a number of private market deals in both the fire and life safety as well as the security space that have transacted at multiple well north of ~15.0x, with Pye-Barker the most notable at ~23x. Although we do not use these aspirational multiples in our base case for valuation, we do believe that as the Company continues to execute its shift towards greater services revenue, particularly within Life Safety, it should start to trade closer to 11-12x+. Public peers that we use and their NTM EBITDA valuation as well as a list of precedent transactions are shown below
    • CTAS: ~20.9x
    • OTIS: ~16.6x
    • PWR: ~13.5x
    • J: ~13.4x
    • JCI: ~13.3x
    • FIX: ~12.4x
    • EME: ~10.1x
    • DY: ~8.9x
      • Average: ~13.7x
    • APG: ~9.8x

                     (Bold font indicates a Fire and Life Safety transaction) 

• • We view CTAS as the most aspirational peer and note that the company also operates a fire safety business, which, notably, they have routinely described as an attractive because of its regulatory necessity. Both DY and EME are largely specialty / industrial contract businesses that are comps for Specialty Services. Again, this segment will naturally become a smaller piece of the business given 1) natural mix shift towards services revenue via APG’s differentiated GTM approach, 2) successful Chubb integration and revenue reacceleration, and 3) the Company restarting its M&A flywheel.
  • Finally, we also believe that there is optionality afforded with the potential sale of the Specialty business. Although this is somewhat speculative, on prior earnings calls management has noted that they “continue to look at the business profile and are always evaluating opportunities”  to drive shareholder value. We have also discussed this value creation with management and know of other shareholders who have done the same. This potential “pruning” of the Specialty segment would not only immediately create a pureplay life safety business, it would also allow APG to quickly delever from the Chubb acquisition and restart M&A. Understandably, one of the reasons management has not gone down this route is that the smooth integration of Chubb takes precedent over all other strategic decisions. However, we do view the most difficult part of cleaning up that business as largely complete with the focus now on growth (hence taking price). Over the next few years this value unlock opportunity likely shows increasing signs of life. Finally, we would like to point out that management has a history of pruning businesses that no longer fit within their operations. For example, at the end of 2019 and into 2020 management sold 2 industrial services businesses that represented ~$300mm in revenue in order to improve the future margin and growth profile of the Company.

Valuation:

Management is guiding towards $660-675mm in adj. EBITDA for FY22 and in our base case we believe APG can grow this figure closer to $1.05bn by 2025 and around $1.2bn by FY26. Highlights of our assumptions over this 3-year projection period:

• APG’s legacy business grows at an organic revenue CAGR of ~5.5% (slightly below historical). Since the market is growing at 2-3% a year, we are assuming APG is successful in gaining 2-3% market share.
• An additional ~$550mm of acquired revenue attributable to M&A for a total top-line CAGR of ~6.5%.
• Chubb grows at a modest organic CAGR of 3%.
• Adj. EBITDA margins slightly surpass management targets of 13% by 10bps to ~13.1%.
• We assume full conversion of preferred equity associated with the financing of Chubb in our DSO calculation
• An 11.0x adj. EBITDA exit multiple

We are also well ahead of consensus figures on both organic growth as well as our estimate for future M&A, which is not incorporated in these projections. On organic growth, we are assuming a blended growth rate between legacy APG and Chubb of ~4.6% vs the street at just ~1.5%. As noted, APG has a very long history of organic growth in the 5-7% range, and although this will be weighed down by Chubb, the acquisition is already starting to show early signs of topline improvement. The pricing and sales initiatives discussed above will help accelerate growth from very low historical levels and we believe 3% is a reasonable projection. Similarly, consensus only has EBITDA margins at 11.6% in FY25 which we view as excessively conservative when taking into account the following factors:

• Although margins for FY22 will likely come in around 10.2-10.3% (down from 10.9% in 2020 and 10.5% in 2021), we have seen solid quarterly improvement from 1Q of this year (8.7%) as 2Q and 3Q run-rate margins were already at 10.7%. Guidance for the full year implies ~10.9% margins in 4Q.
• Management has repeatedly noted that services margins have actually increased this year. Within Safety Services, it has been contract work that has dragged on the segment’s profitability as well as overall company margins. As discussed, contract work will continue to represent a smaller proportion of business over time. 
• Management is targeting 15% EBITDA margins at both Safety Services and Chubb by 2025. In 2Q21, APG had already achieved margins of 14.6% in Safety Services so we do not view 15% as a heroic assumption.
• Price taken in 2022 will be sticky and lead to margin accretion as material cost inflation and supply chain delays normalize. Management has noted that historically they have not had to give back price. Again, this stickiness ties back to APG’s low cost to value proposition of complying with regulations and ensuring the safety of client’s employees vs the cost of negligence, injury, or loss of life.
• Assuming 15% EBITDA margins in both Safety and Chubb are achieved by 2025, hitting total Company level margins of 13% implies that Specialty margins are also ~13.0%. Although this is roughly 200bps above FY22 levels (given a weak 1Q), the segment’s run-rate margins for 3Q22 was 12.5%. Similarly, in 2020 the segment produced margins of 12.5%. 50-100bps of implied margin improvement in Specialty seems quite doable
  • If margins were to instead reach 14%, APG Total Co. margins will surpass management’s target to hit 13.3%.
  • Conversely, at 14% Specialty margins Chubb and Safety Services would only need to reach 14.5% for the Company’s 13.0% target to be met.
  • This assumes Corporate at -1.5% adj. EBITDA margins

All of this is just another way to frame the opportunity set at hand and point out that overall margin targets are achievable. In fact, margins for services work are north of 15% already so success in simply shifting mix over time will improve profitability. Therefore, we also hold the view that sellside’s 11.7% projection is overly pessimistic.

(We do note that there is only one analyst with a 2025 target on BBG and no estimates on CapIQ, but believe this also highlights that the investor community has yet to fully wake up to the APG story.)

Looking at a 12/31/2025 exit we value the Company on $1.2bn of NTM EBITDA at an 11.0x multiple for a total enterprise value of ~$13.3bn, an equity value of $11.8bn, and FDSO of 278mm for a target price of ~$41.85 and an IRR of ~30.5%.

Risks:

• Stumbles with Chubb integration make achieving $100mm in value capture unlikely and organic growth remains flat
• Margin improvement does not materialize as inflationary headwinds persist / costs do not reverse
• Chubb brings European exposure to APG’s business at a time when the continent is seeing macro headwinds.
  • However, we do believe that APG is shielded from some volatility given regulatory mandates on building inspections. Again, the Company’s performance in COVID performance is instructive here.
• APG’s salesforce is unsuccessful with its GTM approach and can’t win new business, dampening organic growth.
• M&A flywheel takes longer to kick back up then we assume so an inorganic story is delayed.
• Ex-Chubb M&A integration is more difficult than anticipated so both organic growth and margins suffer from a drag

Catalyst

• Mix shift to higher margin, mandated Safety Services will drive a multiple rerate
• Integration of Chubb will result in the removal of a major overhang on the stock
• Integration of Chubb will result in revenue synergies that should drive accelerated top-line growth while enabling deleveraging
• Street mismodeling value capture and cost take out opportunity from Chubb merger
• Deleveraging from the Chubb acquisition will enable sub-scale M&A flywheel and multiple arbitrage story to resume. The market is also discounting the potential impact from such M&A
• Potential sale of Specialty business will create the world's largest pure-play life safety business
• Underappreciated end market stability will help performance during a potential economic downturn, particularly relative to peers