World-Class Firesale — Hackett Bails Out Lake Capital with Archstone Acquisition

In what will probably be told as the final chapter of one of the saddest professional services stories in management consulting history, a tale that traces rapid growth and equally rapid decline, Archstone Consulting, a strategy and operations firm, has agreed to be acquired by The Hackett Group. While Hackett has done a good job spinning the deal (see below), it would seem that despite the PR air cover, they're buying a distressed asset on a value basis. Moreover, Archstone's original investors, Chicago-based Lake Capital, appear to have lost between 74% and 82% (based on Tuesday's market close) of their original investment of $75 million in Candlewood Consulting, which became Archstone following their original capital infusion/commitment in 2003. Before digging into some of the details of the deal and what it means, let's first dispose with the spin and numbers.

According to the announcement, Hackett suggests the acquisition will expand their "offerings into strategy and operations" and will create "an enterprise performance management powerhouse". They'll do this by adding "130+ highly skilled associates throughout the U.S. and Western Europe". Moreover, "Archstone will provide Hackett with new industry-focused supply chain and procurement consulting capabilities which will strongly complement Hackett's existing offerings." Reuters provides additional details on the deal, noting "Hackett said it will issue 5.2 million shares, of which 1.6 million shares are subject to an earn-out based revenue achieved in 2010, as part of its acquisition of Archstone." In addition, "The deal is expected to dent fourth-quarter earnings by 2 cents a share, before items, but add about $35 million to $40 million in annualized revenue in 2010, Hackett said."

Before understanding what this means for Hackett, let's step back into history. Archstone was originally founded by a bunch of former Deloitte folks and also in the wake of the Arthur Andersen debacle. Thanks to a huge investment -- interjecting $75 million into an unproven strategy and operations consulting firm was unprecedented -- the firm grew rapidly. At one point when it "celebrated its four-year anniversary" Archstone "announced that it [had] quadrupled in size to more than 250 employees worldwide" with 2007 sales of approximately $68 million. But then reality struck at the start of the downturn and many of the founding members of the procurement and supply chain practice, including Robert Derocher (now at KPMG), left for less leveraged consulting pastures. Different folks in the practice went to Deloitte and other firms. And one former highly talented Archstone consultant, Chad Trexler, a high-school friend one year my junior at The Shipley School, from where we both graduated, ended up becoming the youngest CPO I've ever known.

Where does this leave the Archstone practice today? Most certainly with a number of highly qualified folks remaining, albeit with a procurement and supply chain team that is significantly smaller than what it used to be. Moreover, the overall practice is not terribly healthy on a comparative basis, with what I calculate is a revenue per consultant of less than $300K per billable resource (which is significantly less than firms like McKinsey, AT Kearney and other strategy and operations competitors). In other words, Archstone was not exactly in the healthiest of positions, despite hiring top-notch talent over the years. And with forecast 2010 revenues down nearly 50% from Archstone's 2007 high, it's clear that their practice was hit significantly harder percentage wise than many other firms in the same field (in comparison, AT Kearney Procurement Solutions, only one piece of the AT Kearney portfolio, is significantly larger than all of Archstone today). And remember, AT Kearney was left for dead at the time that EDS cut bait from their original buyout.

In my view, once this deal is closed and the practices are integrated, Hackett will be acquiring a number of strong consultants and probably a number of existing client relationships in the procurement and supply chain area. But Hackett's procurement advisory practice has historically conducted very different types of engagements than Archstone (at what I'm guessing were materially higher billable rates, given their ability to create leverage through their benchmarking work). Will the two cultures mesh? I suspect they will, since both practices have highly analytical, highly client focused individuals at the helm. But whether or not there will be any actual professional services synergy present is a big "if". At the end of the day, given that Hackett is buying Archstone for between $13.54 million and $19.55 million (as of the market close Tuesday) based on the earn out provision (or roughly 30%-40% forecast 2010 revenue), it feels to me that this was nothing more than a smart financial deal with limited strategic fit. A healthier firm would have sold for 1x revenue or a higher multiple.

As a footnote, please don't shed a tear for Lake Capital in all of this. Remember, they made a killing in Huron Consulting, another of their investments, before the recent accounting scandal that brought the firm's stock down over 70% almost immediately. In fact, we should consider them lucky to be getting out what they are, given Archstone's revenue slide combined with a highly leveraged infrastructure -- from ritzy office space to IT equipment -- that mirrored that of more profitable firms

Jason Busch

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