Up in arms(2)

The tragedy at Sandy Hook Elementary has led LPs to question their investments in guns and private equity-backed gun makers

The US has always taken a libertarian stance on the regulation of firearms; and its biggest pension funds have taken a similar approach to investing in the industry. But recent events may have prompted a permanent change in thinking – at least in the latter case.

In January, the California State Teachers’ Retirement System’s investment committee decided that the $154 billion retirement system will no longer invest in companies that produce weapons considered illegal by the State of California – and divest existing stakes in companies that do.

The retirement system is a limited partner in a Cerberus Capital Management fund that owns Freedom Group, whose subsidiary produced the Bushmaster AR-15 used in a December shooting massacre at a Connecticut elementary school. That specific version of the AR-15 is illegal in the state of California.

California State Treasurer Bill Lockyer, who sits on the boards of both CalSTRS and the California Public Employees’ Retirement System, submitted the divestment motion to CalSTRS shortly after the retirement system revealed investment exposure to at least three companies that produce weapons considered illegal by the state. 

“Like so many of us, I felt very powerless over what happened, and I remember sitting in my office by myself when President Obama spoke to the country that Friday, that afternoon. And he spoke as a dad … And I sat there with all of my thoughts, and felt that I was very powerless,” CalSTRS investment committee chairman Harry Keiley said prior to the divestment vote.

“Then it dawned on me, and I got a message from staff, that I – and we on this board – are not powerless.”
CalPERS may also soon take action. Lockyer has already said that he will present a similar motion to its board of administration.

“Both funds’ policies contemplate divestment from companies whose products can damage public health and safety,” says Lockyer’s director of communications, Tom Dresslar.  “Obviously we feel that the manufacture of assault weapons … fall into that category.”

The shooting at Sandy Hook Elementary School – at which 20 children between the ages of 6 and 7 were killed along with six school employees – was without a doubt one of the most shocking acts of violence to occur in recent US history. Unsurprisingly, the tragedy served as a catalyst for a renewed conversation about gun control.

In the days and weeks following the shooting, prominent private equity investors such as the New York State Common Retirement Fund, the Office of the New York City Comptroller (which manages the city’s $126 billion retirement fund system) and the City of Chicago Comptroller announced that they would review their investments in firearms manufacturers.

In New York City’s case, that portfolio review could lead to divestment.

“We are currently conducting a review of our holdings and aggressively exploring all options, including divestment,” a spokesperson for the New York City Comptroller told Private Equity International.

For its part, Cerberus seems to understand LPs’ discomfort with having ties to a company irrevocably tainted by its association to the massacre.

After announcements from CalSTRS and fellow Cerberus LP Pennsylvania Public School Employees’ Retirement System calling for a review of Cerberus’ investment in Freedom Group, the firm responded by announcing its intention to sell the company.

“We cannot comprehend the losses suffered by the families and friends of those killed by the unthinkable crimes committed that day,” Cerberus said in a statement on Tuesday. “It is apparent that the Sandy Hook tragedy was a watershed event that has raised the national debate on gun control to an unprecedented level. Accordingly, we have determined to immediately engage in a formal process to sell our investment in Freedom Group.”

Cerberus did not respond to a request for further comment.

Although Cerberus’ decision to exit Freedom Group was applauded by many in the mainstream media, several industry sources say that Cerberus – and CalSTRS – may have moved too quickly with their decisions. In particular, some point out that the nature of Cerberus’ public announcement may put them at a disadvantage in potential sale negotiations.

However, an eventual exit of Freedom Group appears to have been in the works for some time. In 2009, the company filed with the US Securities and Exchange commission to hold an initial public offering, but withdrew the filing nearly two years later. Reports speculated that the firearms market had softened since 2009 – when gun sales spiked following President Barack Obama’s election.

In the wake of Sandy Hook, firearm sales have surged amid fears that Obama may enact sweeping gun control regulations – though share prices of publicly traded manufacturers such as Smith & Wesson and Sturm, Ruger & Company have not responded in kind.

Lockyer’s office believes that the damage inflicted by certain firearms – namely those banned in California – leaves manufacturers vulnerable to legal and regulatory uncertainty in the long term. 

“Gun companies, particularly these manufacturers, will be subject to increased regulatory and litigation risk that will reduce their value,” argues Dresslar.

No matter how the gun control debate is resolved – and history suggests that it won’t be easy to push through significant reforms – here’s hoping that investors never have to make these decisions in the face of such a tragedy ever again.