MACGRAY13D

-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, DFb+QOxr1mMaYw9VAI7zfUagdJJ86No6sth1lVVvzxzzhX3bj1IEdJI5NQeiCkzR JzflNvQ1O+qDk5cqI0gJVA== 0000935836-07-000390.txt : 20071207 0000935836-07-000390.hdr.sgml : 20071207 20071206181053 ACCESSION NUMBER: 0000935836-07-000390 CONFORMED SUBMISSION TYPE: SC 13D PUBLIC DOCUMENT COUNT: 4 FILED AS OF DATE: 20071207 DATE AS OF CHANGE: 20071206 SUBJECT COMPANY: COMPANY DATA: COMPANY CONFORMED NAME: MAC-GRAY CORP CENTRAL INDEX KEY: 0001038280 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-PERSONAL SERVICES [7200] IRS NUMBER: 043361982 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: SC 13D SEC ACT: 1934 Act SEC FILE NUMBER: 005-53449 FILM NUMBER: 071290569 BUSINESS ADDRESS: STREET 1: 404 WYMAN STREET STREET 2: SUITE 400 CITY: WALTHAM STATE: MA ZIP: 02451 BUSINESS PHONE: 781-487-7600 MAIL ADDRESS: STREET 1: 404 WYMAN STREET STREET 2: SUITE 400 CITY: WALTHAM STATE: MA ZIP: 02451 FORMER COMPANY: FORMER CONFORMED NAME: MAC GRAY INC DATE OF NAME CHANGE: 19970424 FILED BY: COMPANY DATA: COMPANY CONFORMED NAME: FAIRVIEW CAPITAL INVESTMENT MANAGEMENT CENTRAL INDEX KEY: 0001056549 IRS NUMBER: 943294876 STATE OF INCORPORATION: CA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: SC 13D BUSINESS ADDRESS: STREET 1: 300 DRAKE'S LANDING ROAD STREET 2: SUITE 250 CITY: GREENBRAE STATE: CA ZIP: 94904 BUSINESS PHONE: 4154644640 MAIL ADDRESS: STREET 1: 300 DRAKE'S LANDING ROAD STREET 2: SUITE 250 CITY: GREENBRAE STATE: CA ZIP: 94904 SC 13D 1 macgray13d.htm SCHEDULE 13D MACGRAY13D

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

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SCHEDULE 13D

Under the Securities Exchange Act of 1934
(Amendment No. ___________)

Mac-Gray Corporation

(Name of Issuer)

Common Stock

(Title of Class of Securities)

554153106

(CUSIP Number)

Ellyn Roberts
Shartsis Friese LLP
One Maritime Plaza, 18th Floor
San Francisco, CA 94111 (415) 421-6500

(Name, Address and Telephone Number of Person
Authorized to Receive Notices and Communications)

December 3, 2007

(Date of Event Which Requires Filing of this Statement)

If the filing person has previously filed a statement on Schedule 13G to report the acquisition that is the subject of this Schedule 13D, and is filing this schedule because of sections 240.13d-1(e), 240.13d-1(f) or 140.13d-1(g), check the following box. [ ]

Note: Schedules filed in paper format shall include a signed original and five copies of the schedule, including all exhibits. See section 240.13d-7 for other parties to whom copies are to be sent.

* The remainder of this cover page shall be filled out for a reporting person's initial filing on this form with respect to the subject class of securities, and for any subsequent amendment containing information which would alter the disclosures provided in a prior cover page.

The information required in the remainder of this cover page shall not be deemed to be "filed" for the purpose of Section 18 of the Securities Exchange Act of 1934 ("Act") or otherwise subject to the liabilities of that section of the Act but shall be subject to all other provisions of the Act (however, see the Notes).

Potential persons who are to respond to the collection of information contained in this form are not required to respond unless the form displays a currently valid OMB control number.

1. Names of Reporting Persons. I.R.S. Identification Nos. of above persons (entities only).

Fairview Capital Investment Management, LLC

2. Check the Appropriate Box if a Member of a Group (See Instructions)
(a)
(b) X

3. SEC Use Only

4. Source of Funds (See Instructions) AF

5. Check if Disclosure of Legal Proceedings Is Required Pursuant to Items 2(d) or 2(e) ____

6. Citizenship or Place of Organization California

Number of Shares Beneficially Owned by Each Reporting Person With	7. Sole Voting Power 0
	8. Shared Voting Power 665,140
	9. Sole Dispositive Power 0
	10. Shared Dispositive Power 665,140

11. Aggregate Amount Beneficially Owned by Each Reporting Person 665,140

12. Check if the Aggregate Amount in Row (11) Excludes Certain Shares (See
Instructions) ______

13. Percent of Class Represented by Amount in Row (11) 5.0%

14. Type of Reporting Person (See Instructions) IA, OO

1. Names of Reporting Persons. I.R.S. Identification Nos. of above persons (entities only).

Fairview Capital

2. Check the Appropriate Box if a Member of a Group (See Instructions)
(a)
(b) X

3. SEC Use Only

4. Source of Funds (See Instructions) AF

5. Check if Disclosure of Legal Proceedings Is Required Pursuant to Items 2(d) or 2(e) ____

6. Citizenship or Place of Organization California

Number of Shares Beneficially Owned by Each Reporting Person With	7. Sole Voting Power 0
	8. Shared Voting Power 665,140
	9. Sole Dispositive Power 0
	10. Shared Dispositive Power 665,140

11. Aggregate Amount Beneficially Owned by Each Reporting Person 665,140

12. Check if the Aggregate Amount in Row (11) Excludes Certain Shares (See
Instructions) ______

13. Percent of Class Represented by Amount in Row (11) 5.0%

14. Type of Reporting Person (See Instructions) HC, CO

1. Names of Reporting Persons. I.R.S. Identification Nos. of above persons (entities only).

Andrew F. Mathieson

2. Check the Appropriate Box if a Member of a Group (See Instructions)
(a)
(b) X

3. SEC Use Only

4. Source of Funds (See Instructions) AF

5. Check if Disclosure of Legal Proceedings Is Required Pursuant to Items 2(d) or 2(e) ____

6. Citizenship or Place of Organization U.S.A.

Number of Shares Beneficially Owned by Each Reporting Person With	7. Sole Voting Power 7,200
	8. Shared Voting Power 665,140
	9. Sole Dispositive Power 7,200
	10. Shared Dispositive Power 665,140

11. Aggregate Amount Beneficially Owned by Each Reporting Person 672,340

12. Check if the Aggregate Amount in Row (11) Excludes Certain Shares (See
Instructions) ______

13. Percent of Class Represented by Amount in Row (11) 5.1%

14. Type of Reporting Person (See Instructions) HC, IN

1. Names of Reporting Persons. I.R.S. Identification Nos. of above persons (entities only).

Scott W. Clark

2. Check the Appropriate Box if a Member of a Group (See Instructions)
(a)
(b) X

3. SEC Use Only

4. Source of Funds (See Instructions) AF

5. Check if Disclosure of Legal Proceedings Is Required Pursuant to Items 2(d) or 2(e) ____

6. Citizenship or Place of Organization U.S.A.

Number of Shares Beneficially Owned by Each Reporting Person With	7. Sole Voting Power 0
	8. Shared Voting Power 665,140
	9. Sole Dispositive Power 0
	10. Shared Dispositive Power 665,140

11. Aggregate Amount Beneficially Owned by Each Reporting Person 665,140

12. Check if the Aggregate Amount in Row (11) Excludes Certain Shares (See
Instructions) ______

13. Percent of Class Represented by Amount in Row (11) 5.0%

14. Type of Reporting Person (See Instructions) IN, HC

Item 1. Security and Issuer

This statement relates to shares of Common Stock (the "Stock") of Mac-Gray Corporation (the "Issuer"). The principal executive office of the Issuer is located at 404 Wyman Street, Suite 400, Waltham, MA 02451-1212.

Item 2. Identity and Background

The persons filing this statement and the persons enumerated in Instruction C of Schedule 13D and, where applicable, their respective places of organization, general partners, directors, executive officers and controlling persons, and the information regarding them, are as follows:

(a) Fairview Capital Investment Management, LLC ("FCIM LLC"),
Fairview Capital,
Andrew F. Mathieson,
Scott W. Clark
(collectively, the "Filers").

(b) The business address of the Filers is
300 Drakes Landing Road, Suite 250, Greenbrae, CA 94904

(c) Present principal occupation or employment of the Filers and the name, principal business and address of any corporation or other organization in which such employment is conducted:
FCIM LLC is the investment advisor and general partner of an investment limited partnership and is the investment adviser to other accounts. Fairview Capital is the manager of FCIM LLC. Mr. Mathieson is the controlling shareholder and President of Fairview Capital and is a member of FCIM LLC. Mr. Clark is a member and portfolio manager of FCIM LLC.

(d) During the last five years, none of the Filers has been convicted in a criminal proceeding (excluding traffic violations or similar misdemeanors).

(e) During the last five years, none of the Filers was a party to a civil proceeding of a judicial or administrative body of competent jurisdiction and as a result of such proceeding was or is subject to a judgment, decree or final order enjoining future violations of, or prohibiting or mandating activities subject to, federal or state securities laws or finding any violation with respect to such laws.

(f) For citizenship of the Filers, see Item 4 of the cover sheet for each Filer.

Item 3. Source and Amount of Funds or Other Consideration

The source and amount of funds used in purchasing the Stock were as follows:

Purchaser	Source of Funds	Amount
FCIM LLC	AF⁽¹⁾	$6,346,174

(1) Purchases were made by an investment limited partnership of which accounts to which FCIM LLC is the general partner and investment adviser and other accounts of which it is the investment adviser.

Item 4. Purpose of Transaction

The Filers acquired the Shares for investment purposes in the ordinary course of business. In pursuing such investment purposes, the Filers may further purchase, hold, vote, trade, dispose or otherwise deal in the Shares at times, and in such manner, as they deem advisable to benefit from changes in the Shares' market price, changes in the Issuer's operations, business strategy or prospects, or from sale or merger of the Issuer. To evaluate such alternatives, the Filers routinely will monitor the Issuer's operations, prospects, business development, management, competitive and strategic matters, capital structure, and prevailing market conditions, as well as alternative investment opportunities, the filers' liquidity requirements and other investment considerations. Consistent with their investment research methods and evaluation criteria, the Filers may discuss such matters with the Issuer's management or directors, other shareholders, industry analysts, existing or potential strategi c partners or competitors, investment and financing professionals, sources of credit and other investors. Such factors and discussions may materially affect, and result in, the Filers' modifying their ownership of the Shares, exchanging information with the Issuer pursuant to confidentiality or similar agreements, proposing changes in the Issuer's operations, governance or capitalization, or in proposing one or more of the other actions described in sections (a) through (j) of Item 4 of Schedule 13D. The Filers may formulate other plans and/or make other proposals, and take such actions with respect to the Shares, including any or all of the actions described in sections (a) through (j) of Item 4 of Schedule 13D. Without limiting the generality of the foregoing, certain of the Filers sent a letter (a) on December 5, 2007, to the Issuer's board of directors (the "Board") urging it to consider a high dividend payment model or selling the Issuer, (b) on October 9, 2007, to the independent members of the Boar d asking them to consider certain questions in connection with maximizing the value of the Issuer for all shareholders and (c) on July 9, 2007, to the Board recommending that the Issuer, among other things, make changes to its capital allocation strategy. Copies of those letters are attached as Exhibits B, C and D.

Item 5. Interest in Securities of the Issuer

The beneficial ownership of the Stock by each Filer at the date hereof is reflected on that Filer's cover page.

The Filers effected the following transactions in the Stock in open market transactions on the dates indicated, and such transactions are the only transactions in the Stock by the Filers since 60 days before date on the cover page:

Name	Purchase or Sale	Date	Number of Shares	Price per Share
FCIM LLC	Purchase	10/5/2007	2,800	$12.10
FCIM LLC	Purchase	11/2/2007	2,100	$12.40
FCIM LLC	Purchase	11/8/2007	600	$12.05
FCIM LLC	Purchase	11/9/2007	100	$12.05
FCIM LLC	Purchase	11/13/2007	6,840	$11.95
FCIM LLC	Purchase	11/19/2007	5,000	$11.28
FCIM LLC	Purchase	11/26/2007	1,900	$10.50
FCIM LLC	Purchase	12/3/2007	10,000	$12.05

Item 6. Contracts, Arrangement, Understandings or Relationships with Respect to Securities of the Issuer

FCIM LLC is the general partner of an investment limited partnership pursuant to an agreement of limited partnership and is the investment adviser to other accounts pursuant to investment advisory contracts providing to FCIM LLC the authority, among other things, to invest that partnership's and those accounts' funds in the Stock, to vote and dispose of Stock and to file this statement on behalf of the partnership and other accounts. Pursuant to such agreement of limited partnership, FCIM LLC is entitled to allocations based on assets under management and realized and unrealized gains.

Item 7. Material to Be Filed as Exhibits

Exhibit A - Agreement Regarding Joint Filing of Statement on Schedule 13D or 13G incorporated by reference to Schedule 13G filed February 13, 2007.

Exhibit B - Letter to the Board dated December 5, 2007.

Exhibit C - Letter to the independent members of the Board dated October 9, 2007.

Exhibit D - Letter to the Board dated July 9, 2007.

SIGNATURES

After reasonable inquiry and to the best of my knowledge, I certify that the information set forth in this statement is true, complete and correct.

Dated: December 6, 2007

FAIRVIEW CAPITAL INVESTMENT MANAGEMENT, LLC By: Fairview Capital, Manager By: /s/ Andrew F. Mathieson, President	FAIRVIEW CAPITAL By: /s/ Andrew F. Mathieson, President

/s/ Andrew F. Mathieson	/s/ Scott W. Clark

4281\004\EROBERTS\1476405.2

EX-1 2 exhibitb.htm EXHIBIT B SCHEDULEB

December 5, 2007

The Board of Directors

Mac-Gray Corporation

c/o Linda A. Serafini, Secretary

404 Wyman Street, Suite 400

Waltham, MA 02451

Dear Members of the Board:

In conjunction with our Schedule 13D filing, we want to reiterate our concerns regarding Mac-Gray's growth and capital allocation strategies. We also want to take this opportunity to urge the Board to consider two alternate paths: a high dividend payout model or a sale of the company. We believe both of these alternatives would deliver significantly more value to shareholders than the status quo.

As you know, we are long-term investors who take pride in our research and the constructive relationships we often develop with companies over the course of several years of ownership. We have owned Mac-Gray shares for nearly four years, during which time we have worked hard to develop an understanding of the company and its business.

Mac-Gray's Management should be commended for the company's history of excellent customer service and industry-leading technological innovation. However, we believe Mac-Gray's growth and capital allocation strategies have been much less successful.

We have long been puzzled and frustrated by Mac-Gray's low return on invested capital ("ROIC") and return on equity ("ROE") and its lack of growth in earnings per share ("EPS"). We have had difficulty reconciling these numbers with Management's contentions that Mac-Gray earns strong returns on its acquisitions and capital investments.

We have conducted our own analysis of Mac-Gray's financial performance and acquisitions, and have concluded that the company's focus on revenue and EBITDA growth has created very little value for shareholders. We believe our analysis is unbiased, fact-based, and conclusive. Accordingly, we believe it is incumbent upon the Board to bring an end to the status quo and implement changes to realize tangible value for all shareholders.

The Current "Growth" Strategy Has Created Very Little Shareholder Value

Ever since its ill-fated attempts to enter other lines of business through the MicroFridge and Copico acquisitions in the late 1990s, Mac-Gray has focused on its core laundry facilities management business. Motivated by incentive compensation plans that reward growth in revenue and EBITDA, Management has invested hundreds of millions of dollars to expand the core business.

Unfortunately, the returns on these investments appear to be very poor. Despite achieving the revenue and EBITDA growth targets needed to earn large bonuses for Management, these investments have not led to improvements in ROIC, ROE, or EPS. For the past seven years, Mac-Gray's ROIC and ROE have been unacceptably low, and its EPS numbers have been erratic. The numbers are undeniable:


Table 1	2000	2001	2002	2003	2004	2005	2006

ROIC	10.0%	7.2%	8.2%	7.5%	9.2%	6.9%	7.4%

ROE	12.4%	7.6%	9.3%	9.4%	11.1%	3.7%	6.5%

Adjusted EPS	$0.32	$0.22	$0.28	$0.30	$0.39	$0.42	$0.31

* Please see Exhibit 1 at the end of this letter for supporting calculations.

We have discussed this issue with Management, and also with a few Board members at the 2007 annual meeting of stockholders in Boston. The common explanation for Mac-Gray's low ROIC and ROE and stagnant earnings is that Mac-Gray's business involves significant upfront investments that require time to pay off.

This explanation does not stand up to scrutiny. First, since Mac-Gray has pursued the same strategy for the past seven years, the company's consolidated ROIC and ROE are indeed good indicators of the company's long-term capital allocation decisions. Second, most of Mac-Gray's investments in fact provide a nearly-immediate payoff. This is because most acquisitions are integrated within a few months of closing, and the profitability of any given customer contract is not that different in year two than in year five.

When presented with these poor results, Management has said that Mac-Gray should not be judged by these metrics because it is "an EBITDA company." The unfortunate reality is that EBITDA growth has not translated to shareholder value. Though Mac-Gray's EBITDA has nearly doubled since 2000, its debt has nearly tripled and its share count has also increased. The numbers show that the majority of Mac-Gray's share price increase in recent years resulted from multiple expansion:


Table 2 ($ millions, except share price)
	2000	2001	2002	2003	2004	2005	2006	12/5/07*
Share Price (end of period)	$3.25	$2.81	$3.29	$5.40	$8.09	$11.65	$11.92	$11.79
Diluted Shares	12.6	12.6	12.7	12.7	13.0	13.3	13.4	13.7
Equity Value	$41.1	$35.5	$41.7	$68.8	$105.4	$154.7	$160.3	$161.2

Plus: Debt	$77.6	$70.2	$56.8	$50.9	$73.3	$166.7	$177.1	$219.8
Enterprise Value	$118.7	$105.8	$98.5	$119.7	$178.7	$321.4	$337.4	$381.0

Adj. EBITDA (trailing 12 mos.)	$33.9	$30.4	$28.6	$28.2	$34.3	$52.4	$55.2	$62.0

Trailing EBITDA Multiple	3.5x	3.5x	3.4x	4.3x	5.2x	6.1x	6.1x	6.1x

* 2007 YTD adjusted to include an estimated full-year contribution from the acquired Hof Service Company.

As demonstrated in the following illustrative analysis, had Mac-Gray traded at a constant EBITDA multiple of 5x since 2000 (roughly the average multiple over this timeframe), the share price would have stayed roughly flat in the $7 range.


Table 3 ($ millions, except share price)
	2000	2001	2002	2003	2004	2005	2006	12/5/07*
Adj. EBITDA (trailing 12 mos.)	$33.9	$30.4	$28.6	$28.2	$34.3	$52.4	$55.2	$62.0
Trailing EBITDA Multiple	5.0x	5.0x	5.0x	5.0x	5.0x	5.0x	5.0x	5.0x
Enterprise Value	$169.6	$152.1	$143.1	$140.8	$171.3	$262.1	$276.1	$310.0

Less: Debt	($77.6)	($70.2)	($56.8)	($50.9)	($73.3)	($166.7)	($177.1)	($219.8)
Equity Value	$92.0	$81.9	$86.3	$89.9	$98.0	$95.4	$99.0	$90.1

Diluted Shares	12.6	12.6	12.7	12.7	13.0	13.3	13.4	13.7

Implied Share Price	$7.28	$6.48	$6.81	$7.05	$7.52	$7.18	$7.36	$6.59

It is very clear from this analysis that the current strategy has created very little value for shareholders. There is no reason to believe the same strategy should produce different results in the future. Thus, we urge a change of direction.

High Dividend Payout Model

If Mac-Gray is to remain an independent company, we think a high dividend payout model is the best alternative for delivering tangible value to shareholders. Rather than trying to be a "growth" company, Mac-Gray should embrace its modest inherent growth and strong free cash flow generation and adopt a capital allocation strategy more appropriate for its financial profile.

Specifically, we recommend Mac-Gray significantly reduce its spending on acquisitions and new customer contracts. It could accomplish this by raising meaningfully its required rate of return and being more conservative and rigorous in its financial analysis. This would result in: (1) fewer, better investments and (2) excess free cash flow that could be returned to shareholders through dividends.

As shown in Exhibit 2 at the end of this letter, our analysis indicates that Mac-Gray could return $19 million (approximately $1.45 per share) annually to shareholders by reducing annual acquisition and capital spending to $25 million. This level of spending would not limit the company's ability to renew expiring customer contracts and would still allow the company to pursue growth through selective investments in high-return opportunities.

Please note that this analysis excludes any impact from the acquisition of Hof Service Company. If that deal turns out to be accretive, as Management has indicated, Mac-Gray would be able to pay an even higher dividend.

This example illustrates that a large annual dividend would force the stock market to value Mac-Gray based on its free cash flow and should immediately improve the share price. It would also provide a meaningful and tangible ongoing return to shareholders. We do not recommend initiating a small dividend, as it would not have the same effect.

We understand such a strategic shift is not without complication. For example, Mac-Gray's 7-5/8% senior notes presently limit dividend payments. In addition, the senior executive incentive compensation plans would need to be aligned with the new capital allocation strategy. These challenges can be overcome and should not be used to justify a continuation of the status quo.

Sale of the Company

If Management refuses to change strategic course, we believe the Board should consider an outright sale of the company to achieve immediate value for Mac-Gray shareholders. A formal auction process would secure the highest price and ensure fairness for all shareholders.

The most obvious prospective buyer is Coinmach, which demonstrated its interest in Mac-Gray with an unsolicited acquisition offer a year ago. In addition, Coinmach's new owner (Babcock & Brown) has expressed an interest in further consolidating the industry.

Mac-Gray also has demonstrated an interest in such a combination. By advancing to the final round of bidding for Coinmach (as detailed in Coinmach's merger proxy), Mac-Gray signaled a strong desire to merge with Coinmach and acknowledged the tremendous synergies that could be achieved. It is our view that Mac-Gray shareholders unquestionably would be best served if Mac-Gray were the seller in any deal with Coinmach.

Mac-Gray should also consider selling to other buyers. Private equity and infrastructure funds likely would covet the annuity-like nature and consistent free cash flow generation of Mac-Gray's "essential services" business.

Conclusion

The time for action is now. Years of mediocre financial performance indicate the current strategy is not working. The share price tells a similar story. Mac-Gray's current share price of $11.79 is only 7% higher than its 1997 IPO price of $11.00. By comparison, the total return of the S&P 500 over the same ten-year timeframe has been approximately 85% (including reinvested dividends). The improvement in Mac-Gray's share price over the past few years does not justify the current strategy, as it represents a rebound from a low base that was due in part to the poor acquisitions of MicroFridge and Copico.

How much longer must Mac-Gray shareholders endure low returns on their capital and a depressed share price? The Board has all the information it needs to conclude that the current strategy is not working. We urge you to take action now.

Very sincerely,

Scott W. Clark Andrew F. Mathieson

Exhibit 1: Analysis of ROIC, ROE, and EPS
$ millions, except per share values

ROIC and ROE Calculations	2000	2001	2002	2003	2004	2005	2006

Numerator
Reported Net Income	$3.8	$2.5	$3.8	$4.1	$5.3	$12.1	$0.9

+/- Non-recurring Items	$0.0	$0.0	($0.2)	($0.6)	($1.0)	($11.9)	$3.5
+ Stock-based Compensation	$0.0	$0.0	$0.0	$0.0	$0.0	$0.0	$1.1
+ SOX Expense (estimated)	$0.0	$0.0	$0.0	$0.0	$0.5	$1.0	$1.5
+ Taxes (reported)	$3.2	$2.3	$2.6	$3.0	$3.9	$8.6	$0.1
- Taxes (cash paid)	$0.2	($0.2)	($0.4)	($0.3)	($0.6)	($6.6)	($1.3)
(a) Adjusted Net Income	$7.2	$4.6	$5.8	$6.2	$8.0	$3.1	$5.8

+ Net Interest Expense	$6.8	$5.2	$4.6	$2.8	$4.3	$10.9	$13.7
(b) Adjusted Unlevered Net Income	$14.0	$9.7	$10.3	$9.0	$12.3	$14.0	$19.5

Denominator
Shareholders' Equity	$60.0	$60.6	$63.7	$68.7	$75.9	$88.6	$91.6
Debt	$77.6	$70.2	$56.8	$50.9	$73.3	$166.7	$177.1
Invested Capital	$137.6	$130.8	$120.5	$119.6	$149.3	$255.3	$268.7

(c) Average Shareholders' Equity	$58.1	$60.3	$62.1	$66.2	$72.3	$82.3	$90.1
(d) Average Invested Capital	$140.3	$134.2	$125.7	$120.1	$134.4	$202.3	$262.0

Return Analysis
ROE = a / c	12.4%	7.6%	9.3%	9.4%	11.1%	3.7%	6.5%
ROIC = b / d	10.0%	7.2%	8.2%	7.5%	9.2%	6.9%	7.4%

EPS Adjustments	2000	2001	2002	2003	2004	2005	2006

Reported Net Income	$3.8	$2.5	$3.8	$4.1	$5.3	$12.1	$0.9

+/- Non-recurring Items	$0.0	$0.0	($0.2)	($0.6)	($1.0)	($11.9)	$3.5
+ Stock-based Compensation	$0.0	$0.0	$0.0	$0.0	$0.0	$0.0	$1.1
+ SOX Expense (estimated)	$0.0	$0.0	$0.0	$0.0	$0.5	$1.0	$1.5
+ Taxes (reported)	$3.2	$2.3	$2.6	$3.0	$3.9	$8.6	$0.1
- Taxes (42% rate)	($2.9)	($2.0)	($2.6)	($2.7)	($3.6)	($4.1)	($3.0)
Adjusted Net Income	$4.0	$2.8	$3.6	$3.8	$5.0	$5.6	$4.1

Diluted Shares	12.6	12.6	12.7	12.7	13.0	13.3	13.4

Adjusted EPS	$0.32	$0.22	$0.28	$0.30	$0.39	$0.42	$0.31

Exhibit 2: Dividend Potential
$ millions, except per share values



2006 Statement of Cash Flows
Net Cash Flows Provided by Operating Activities	$36.5
Net Cash Flows Used in Investing Activities	($45.0)
Distributable Cash Flow	($8.5)

Adjustments:
+ Capital Expenditures (actual)	$25.9
+ Customer Incentive Payments (actual)	$4.5	Per 2006 10-K
+ Payments for Acquisitions (actual)	$19.4
- Pro Forma Investment Spending	($25.0)	Fairview recommendation
+ 2007 Operating Cash Flow Growth	$3.0	Fairview estimate
Adjusted Run-rate Distributable Cash Flow	$19.3

Common Shares	13.3

Distributable Cash Flow Per Share	$1.45

Dividend Yield	7.25%

Implied Share Price	$20.06

EX-2 3 exhibitc.htm EXHIBIT C SCHEDULEC

October 9, 2007

PRIVATE AND CONFIDENTIAL

Independent Members of the Board of Directors

Mac-Gray Corporation

c/o Linda A. Serafini, Secretary

404 Wyman Street, Suite 400

Waltham, MA 02451

Dear Independent Members of the Board:

We are writing to follow-up our previous letter to the Board (dated July 9, 2007). That letter outlined our concerns regarding Mac-Gray's growth and capital allocation strategies. In support of these concerns, the letter included several pieces of analysis that we believe are unbiased, fact-based, thorough, and conclusive.

When a significant and longstanding shareholder provides a compelling analysis that indicates issues of concern to all shareholders, we believe the Board should be concerned enough to investigate the issues further. As such, we were disappointed to receive only a terse and dismissive reply letter from Stewart MacDonald (dated July 24, 2007). We were further distressed to learn of Mac-Gray's acquisition of Hof Service Company, which appears to be yet another questionable financial deal for Mac-Gray shareholders.

We believe the interests of all shareholders need to be given appropriate consideration. Stewart MacDonald's interests may not align perfectly with those of all shareholders. Therefore, we request that the independent members of the Board carefully consider the following questions.

For at least the past seven years, Mac-Gray's adjusted earnings per share (EPS) have stagnated in the $0.30 range and its return on invested capital (ROIC) and return on equity (ROE) have been below 10% (see Exhibit 1 in our July 9 letter). Are these results acceptable?

The run-rate ROIC for the two WEB acquisitions was approximately 7.5% (see Exhibit 2 in our July 9 letter), and the WEB operations have experienced little or no organic growth since they were acquired. Is this an acceptable rate of return for low-growth acquisitions?

Mac-Gray's focus on revenue and EBITDA growth has created very little value for shareholders (very clearly demonstrated in Tables 1 and 2 in our July 9 letter). Given that this "growth" strategy appears to have failed to increase shareholder value in the past, is it reasonable to expect it to do so in the future?

In our July 9 letter, we outlined a capital allocation and dividend policy that could result in a share price in excess of $20, and which would provide a meaningful, ongoing cash return to shareholders (see Exhibit 3 in our July 9 letter). Should the company consider alternate strategies such as the one we suggested?

Despite the less-than-satisfactory results outlined in the first three questions, management has continued to earn significant performance-related bonuses. Now that we have brought to your attention the shortcomings of Mac-Gray's focus on revenue and EBITDA growth, should the compensation committee implement new criteria for incentive compensation?

These are questions we would be asking if we were on the Board. Please let us reiterate that we are long-term owners with a single objective: the maximization of value for all shareholders. We believe a strong and independent Board that shares this objective would choose to take a position on these questions.

We would welcome a response to our concerns or an opportunity to discuss them further. If selective disclosure poses a problem, a response could be made available to all shareholders.

Thank you very much for your time and consideration.

Very sincerely,

Scott W. Clark Andrew F. Mathieson

EX-3 4 exhibitd.htm EXHIBIT D EXHIBITD

July 9, 2007

PRIVATE AND CONFIDENTIAL

The Board of Directors

Mac-Gray Corporation

c/o Linda A. Serafini, Secretary

404 Wyman Street, Suite 400

Waltham, MA 02451

Dear Members of the Board:

Fairview Capital has been a Mac-Gray shareholder for more than three years and presently owns 4.8% of the company's common shares. We are long-term investors and take pride in the constructive relationships we often develop with companies over the course of several years of ownership.

We are writing to express our concern over the company's low return on invested capital (ROIC), which we believe is the result of poor capital allocation decisions that have depressed shareholder returns. The returns the company achieves on its investments in acquisitions and new customer contracts are the primary determinant of long-term value creation, and therefore should receive critical focus from the Board.

As is detailed later in this letter, we recommend that Mac-Gray abandon its focus on revenue and EBITDA growth, which has created little shareholder value. Mac-Gray should adopt a capital allocation strategy more appropriate for its low-growth, cash-generative financial profile. To facilitate these changes, the Board should repair the company's senior executive incentive compensation policies.

During the past five fiscal years, Mac-Gray has spent $267 million of its shareholders' money on acquisitions and capital spending (excluding customer incentive payments). Over this same timeframe, after adjusting for non-recurring items and stock-based compensation and Sarbanes-Oxley expenses, the company's earnings per share numbers have been erratic, and its ROIC and return on equity (ROE) have been unacceptably low (see attached Exhibit 1).

We have discussed this issue at length with the Management, and also had the opportunity to discuss it with a few Board members at the recent annual meeting of stockholders in Boston. The common explanation for Mac-Gray's stagnant earnings and low ROIC and ROE is that Mac-Gray's business involves significant upfront investments that require time to pay off.

This explanation does not stand up to scrutiny. First, since Mac-Gray has pursued the same strategy for at least the past seven years, the company's consolidated ROIC and ROE are indeed good indicators of the company's long-term capital allocation decisions. Second, most of Mac-Gray's investments in fact provide a nearly-immediate payoff. This is because most acquisitions are integrated within a few months of closing, and the profitability of customer contracts is not that different in year two than in year five. Third, Mac-Gray's disappointing ROIC and ROE in 2006 fully reflect the impact of the two WEB acquisitions, as the more recent WEB West acquisition was completed in January of 2005 and proclaimed to be fully integrated in the third quarter of 2005.

A closer look at the two WEB acquisitions, which dominate Mac-Gray's consolidated return calculations, further demonstrates that Mac-Gray's consolidated ROIC and ROE are low simply because the company has settled for low returns on much of the capital it has deployed. Either Mac-Gray has set the bar too low, or it has allowed "strategic" considerations to take precedence over financial returns, which would be a mistake for investments of such large magnitude.

As illustrated in the attached Exhibit 2, the run-rate ROIC on the two WEB acquisitions was less than 8%. Management might contend that these numbers (combined pro forma EBITDA contribution of $27 million) are understated because they ignore certain general & administrative cost savings. We would point out that Mac-Gray's consolidated EBITDA increased by only $27 million between 2003 and 2006, and the WEB West acquisition involved no geographic overlap, so there could not have been too many additional synergies. Even if there were one or two million dollars of additional synergies, it would not change our conclusion, which is that single-digit returns on acquisitions of low-growth businesses are simply inadequate.

Based on our analysis of Mac-Gray's financials and the WEB acquisitions, as well as conversations with the Management, we have concluded that the current "growth" strategy is not working. The pursuit of revenue and EBITDA growth has not created any tangible value for shareholders because it has not led to improvement in the metrics that really matter: earnings per share and free cash flow per share.

The pursuit of revenue and EBITDA growth also has failed to improve the share price. Though Mac-Gray's EBITDA has nearly doubled since 2002, its debt has more than tripled and its share count has also increased. As Table 1 demonstrates, the share price appreciation in recent years is almost entirely due to multiple expansion.


Table 1 ($ millions)	1998	1999	2000	2001	2002	2003	2004	2005	2006	7/6/07

Share Price (end of period)	$11.38	$3.81	$3.25	$2.81	$3.29	$5.40	$8.09	$11.65	$11.92	$15.20
Diluted Shares	12.9	12.7	12.6	12.6	12.7	12.7	13.0	13.3	13.4	13.6
Equity Value	$147.0	$48.3	$41.1	$35.5	$41.7	$68.8	$105.4	$154.7	$160.3	$206.1

Plus: Debt	$80.6	$86.8	$77.6	$70.2	$56.8	$50.9	$73.3	$166.7	$177.1	$176.9
Enterprise Value	$227.7	$135.1	$118.7	$105.8	$98.5	$119.7	$178.7	$321.4	$337.4	$382.9

Adj. EBITDA (trailing 12 mos.)	$31.8	$30.7	$33.9	$30.4	$28.6	$28.2	$34.3	$52.4	$55.2	$56.1

Trailing Multiple	7.2x	4.4x	3.5x	3.5x	3.4x	4.3x	5.2x	6.1x	6.1x	6.8x

Table 2 shows that if Mac-Gray had traded at a constant EBITDA multiple of 5x in recent years, the share price would have stayed roughly flat in the $7 range.


Table 2 ($ millions)	1998	1999	2000	2001	2002	2003	2004	2005	2006	7/6/07

Adj. EBITDA (trailing 12 mos.)	$31.8	$30.7	$33.9	$30.4	$28.6	$28.2	$34.3	$52.4	$55.2	$56.1
Trailing Multiple	5.0x	5.0x	5.0x	5.0x	5.0x	5.0x	5.0x	5.0x	5.0x	5.0x
Enterprise Value	$158.8	$153.6	$169.6	$152.1	$143.1	$140.8	$171.3	$262.1	$276.1	$280.3

Less: Debt	($80.6)	($86.8)	($77.6)	($70.2)	($56.8)	($50.9)	($73.3)	($166.7)	($177.1)	($176.9)
Equity Value	$78.1	$66.8	$92.0	$81.9	$86.3	$89.9	$98.0	$95.4	$99.0	$103.5

Diluted Shares	12.9	12.7	12.6	12.6	12.7	12.7	13.0	13.3	13.4	13.6

Implied Share Price	$6.04	$5.27	$7.28	$6.48	$6.81	$7.05	$7.52	$7.18	$7.36	$7.63

We view Table 2 as a "smoking gun," which proves that Mac-Gray's EBITDA growth strategy has created little shareholder value. Since the company's EBITDA multiple is unlikely to expand much further, any future share price appreciation will have to be driven by actual increases in shareholder value. The current strategy has failed to produce adequate value in the past, and there is no reason to believe it will deliver in the future.

We are no longer comfortable with the current strategic direction, and we urge the Board to consider a change of course. Rather than trying to be a "growth" company, Mac-Gray should embrace its modest inherent growth and strong free cash flow generation. Mac-Gray should adopt a capital allocation strategy more appropriate for its financial profile and pursue a set of objectives that are tied directly to shareholder value (rather than revenue or EBITDA growth).

Specifically, we recommend Mac-Gray significantly reduce its spending on acquisitions and new customer contracts. It could accomplish this by raising meaningfully its required rate of return (hurdle rate) and being more conservative and rigorous in its financial analysis. This would result in: (1) fewer, better investments and (2) excess free cash flow that could be returned to shareholders through dividends or share repurchases.

As illustrated in the attached Exhibit 3, our analysis indicates that Mac-Gray could return $19 million (more than $1.45 per share) annually to shareholders by reducing annual acquisition and capital spending to $25 million. This level of spending would not limit the company's ability to renew expiring customer contracts and would still allow the company to pursue growth through selective investments in high-return opportunities.

If Mac-Gray were to pay a dividend of $1.45 per share and trade at a dividend yield of 7.25% (roughly the yield of Coinmach's Class A shares prior to the announcement of its sale to Babcock & Brown), this would imply a Mac-Gray share price of approximately $20. This example illustrates that a large annual dividend would force the stock market to value Mac-Gray based on its free cash flow and should immediately improve the share price. It would also provide a meaningful and tangible ongoing return to shareholders.

We do not recommend initiating a small dividend, as it would not have the same effect. If Mac-Gray prefers not to pay a significant annual dividend, it could instead implement a large share repurchase by exercising its "rights of second offer" to purchase shares from members of the MacDonald family, who have been consistent sellers.

We are aware that Mac-Gray's 7 5/8% senior notes place limits on dividend payments and share repurchases. This obstacle can be overcome and should not be used to justify the status quo.

In addition, the senior executive incentive compensation plans would need to be aligned with the new capital allocation strategy. An important responsibility of a Board of Directors is to devise compensation policies that motivate value creation. In this regard, the Board has failed. The existing plans reward growth in revenue and EBITDA, and therefore are part of the problem. A redesigned incentive compensation program should reward executives for improvements in ROIC, ROE, earnings per share, and free cash flow per share.

We understand such a strategic shift is not without complication. It would require important changes within the company, but this should not be a deterrent. A new owner may make such changes if the current Board and Management fail to act. Babcock & Brown's planned acquisition of Coinmach serves as a reminder that Mac-Gray's stable free cash flow profile would be very attractive to many private equity funds.

The recent strength in Mac-Gray's share price should not be used to defend the current "growth" strategy. The stock market is very fickle, and short-term share price movements provide no basis for judging long-term business strategy. In addition, as we pointed out above, we believe Mac-Gray's share price appreciation resulted from multiple expansion rather than growth in shareholder value. Further, we believe Mac-Gray's share price likely would be significantly higher today if the company had not allocated hundreds of millions of dollars to low-return investments in recent years.

In summary, we believe it is incumbent on the Board of Directors to take prompt action to change the company's course and improve shareholder returns. We appreciate your time and consideration, and welcome an opportunity to discuss the issues raised in this letter. We can be reached at (415) 464-4640.

Very sincerely,

Scott W. Clark Andrew F. Mathieson

Exhibit 1: Analysis of EPS, ROIC, and ROE
$ millions


EPS Adjustments	2000	2001	2002	2003	2004	2005	2006

Reported Net Income	$3.8	$2.5	$3.8	$4.1	$5.3	$12.1	$0.9

+/- Non-recurring Items	$0.0	$0.0	($0.2)	($0.6)	($1.0)	($11.9)	$3.5
+ Stock-based Compensation	$0.0	$0.0	$0.0	$0.0	$0.0	$0.0	$1.1
+ SOX Expense (estimated)	$0.0	$0.0	$0.0	$0.0	$0.5	$1.0	$1.5
+ Taxes (reported)	$3.2	$2.3	$2.6	$3.0	$3.9	$8.6	$0.1
- Taxes (42% rate)	($2.9)	($2.0)	($2.6)	($2.7)	($3.6)	($4.1)	($3.0)
Adjusted Net Income	$4.0	$2.8	$3.6	$3.8	$5.0	$5.6	$4.1

Diluted Shares	12.6	12.6	12.7	12.7	13.0	13.3	13.4

Adjusted Earnings Per Share	$0.32	$0.22	$0.28	$0.30	$0.39	$0.42	$0.31

ROIC and ROE Calculations	2000	2001	2002	2003	2004	2005	2006

Numerator
Reported Net Income	$3.8	$2.5	$3.8	$4.1	$5.3	$12.1	$0.9

+/- Non-recurring Items	$0.0	$0.0	($0.2)	($0.6)	($1.0)	($11.9)	$3.5
+ Stock-based Compensation	$0.0	$0.0	$0.0	$0.0	$0.0	$0.0	$1.1
+ SOX Expense (estimated)	$0.0	$0.0	$0.0	$0.0	$0.5	$1.0	$1.5
+ Taxes (reported)	$3.2	$2.3	$2.6	$3.0	$3.9	$8.6	$0.1
- Taxes (cash paid)	$0.2	($0.2)	($0.4)	($0.3)	($0.6)	($6.6)	($1.3)
(a) Adjusted Net Income	$7.2	$4.6	$5.8	$6.2	$8.0	$3.1	$5.8

+ Net Interest Expense	$6.8	$5.2	$4.6	$2.8	$4.3	$10.9	$13.7
(b) Adjusted Unlevered Net Income	$14.0	$9.7	$10.3	$9.0	$12.3	$14.0	$19.5

Denominator
Shareholders' Equity	$60.0	$60.6	$63.7	$68.7	$75.9	$88.6	$91.6
Debt	$77.6	$70.2	$56.8	$50.9	$73.3	$166.7	$177.1
Invested Capital	$137.6	$130.8	$120.5	$119.6	$149.3	$255.3	$268.7

(c) Average Shareholders' Equity		$60.3	$62.1	$66.2	$72.3	$82.3	$90.1
(d) Average Invested Capital		$134.2	$125.7	$120.1	$134.4	$202.3	$262.0

Return Analysis
ROE = a / c		7.6%	9.3%	9.4%	11.1%	3.7%	6.5%
ROIC = b / d		7.2%	8.2%	7.5%	9.2%	6.9%	7.4%

Exhibit 2: Analysis of WEB Acquisitions
$ millions


	EAST		WEST
WEB Historical Results	2003	'03 PF	2004	'04 PF	Notes

Collections	$29.6	$29.6	$68.4	$68.4	Actual WEB results per Mac-Gray 8-K filings
Commercial Rentals	$0.3	$0.3	$0.9	$0.9
Total Revenue	$29.9	$29.9	$69.3	$69.3

Location Rentals	$16.5	$16.5	$36.3	$36.3
General &Administrative	$9.9	$9.9	$24.0	$24.0
Allocation of Corporate Expenses	$2.8	$0.0	$7.9	$0.0	Pro Forma excludes allocation of corporate expenses
Operating Expenses	$29.3	$26.4	$68.2	$60.3

Operating Income (EBIT)	$0.6	$3.5	$1.2	$9.0

Purchase Price		$41.0		$112.1	Per 2005 10-k footnotes; excludes accrued uncollected cash

EBIT		$3.5		$9.0
Plus: Depreciation & Amortization		$3.8		$10.7
EBITDA		$7.2		$19.7	Pro Forma EBITDA consistent with management disclosure

Trailing Purchase Multiples:
Revenue		1.4x		1.6x
EBITDA		5.7x		5.7x	PF EBITDA multiples consistent with management disclosure

EBIT		$3.5		$9.0
Less: Cash Taxes @ 10%		($0.3)		($0.9)	Assumes 10% cash tax rate
Unlevered Net Income		$3.1		$8.1

Purchase Price		$41.0		$112.1

ROIC		7.6%		7.3%	ROIC too low for businesses w/ modest internal growth

Exhibit 3: Dividend Potential
$ millions, except per share values



2006 Cash Flow Statement
Net Cash Flows Provided by Operating Activities	$36.5
Net Cash Flows Used in Investing Activities	($45.0)
Distributable Cash Flow	($8.5)

Adjustments:
+ Capital Expenditures (actual)	$25.9
+ Customer Incentive Payments (actual)	$4.5	Per 2006 10-K
+ Payments for Acquisitions (actual)	$19.4
- Pro Forma Investment Spending	($25.0)	Fairview recommendation
+ 2007 Operating Cash Flow Growth	$3.0	Fairview estimate
Adjusted Run-rate Distributable Cash Flow	$19.3

Common Shares	13.2

Distributable Cash Flow Per Share	$1.46

Dividend Yield	7.25%

Implied Share Price	$20.20

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