INC. 100 veteran Harold Katz and his franchisees thought they had a formula for perpetual growth. Then their customers cut them down to size.
It is, in a sense, a story about cigars. Harold Katz, the dapper president and chairman of Nutri/System Inc., a high-flying INC. 100 company for the past four years, smokes the Veracruz, an elegant cigar that is crafted in Mexico; cedar-wrapped and sealed in glass, it retails for about $5. A box of the cigars sits on the marble conference table tucked away in one corner of Katz's Jenkintown, Pa., office.
Leslie Charm, the admittedly dowdy chairman of Docktor Pet Centers Inc., and the man who, last January, came within an eyelash of buying Nutri/System, smokes the Royal Jamaica Buccaneer, a sensible, cellophane-wrapped cigar that can be had for around $1.20. A box of Buccaneers sits on the functional wooden desk in Charm's barren office in Andover, Mass.
Nutri/System, which owns and franchises weight-loss centers, is a Veracruz company that has found itself, somewhat unexpectedly, competing in a Buccaneer market. This year, for the first time in five years, it does not appear on the INC. 100 list of the fastest-growing public companies in America. From fiscal 1979 to '83, the company had grown at a compound annual rate of 82%, but in fiscal 1984, revenues fell by $17 million (11%). That drop destroyed Nutri/System's earnings: The company plunged from a $13-million profit in fiscal 1983 to a $17.4-million loss in 1984.
Behind the fall? Avarice, it is said. Mismanagement. Loss of momentum, more competition, stockholder lawsuits, and finally a knock-down-drag-out battle that pitted Katz against roughly half of his 550 franchisees. None of that bothered Charm much: He specializes in buying troubled franchising operations and turning them around. And Charm was willing to take on Katz's litany of troubles, provided that the price was right.
In the end, it wasn't. After nearly two years of turmoil and distraction -- and after negotiating with Charm right up to the edge of a deal -- Katz lit up a Veracruz and Called the sale off. Once again, he said, he would turn his attention to running the business.
And once again, that meant, the franchisees would have to deal with Harold Katz.
There was a time when people were happy to deal with Katz. He is, after all, the man who created the concept that made Nutri/System one of the most dynamic and profitable companies -- and a Wall Street leader -- for several years in the early 1980s.
Before Nutri/System, Katz had done a bit of everything, from selling life insurance to running a specialty sales business. He had also watched is mother gain and lose weight repeatedly, as she pursued one dieting plan after another. Katz figured that if he could integrate the various approaches to weight loss -- behavioral counseling, medical supervision, low-calorie meals -- he would have a winner. "I realized then that if you could put all of that under one roof, you'd have a fantastic business," Katz told INC. in 1981. "I had no doubts about it." (see "The Fifty-Million-Dollar Diet," May 1982).
Using $20,000 in savings and $20,000 borrowed on his house, Katz opened his first Nutri/System center in Willow Grove, Pa., a Philadelphia suburb, in December 1971. He opened the second a few months later, and the third -- the first sold to a franchisee -- in September 1972. By the end of 1981, the Nutri/System empire consisted of 496 weight-loss centers (395 of them franchised), with annual revenues of $49.2 million and profits of $9.2 million, a 19% margin. It was, as Katz put it so simply, "a money-making machine."
Katz's formula for losing weight worked well, and customers flocked in. But the reason for Nutri/System's spectacular financial success, the heart of its profitability, was the private-label food that clients were obliged to buy from the centers and eat at least five times a week. The company's markup on that line was the one thing, in 1981, Katz was unwilling to discuss. "Food is generally a low-margin business," notes one of his severest critics, "and what Harold had stumbled onto was a way of making a fortune on it. It was the unconscionable price of the damn food that made Nutri/System."
Katz remains reticent on the subject today. "I admit that we made a very handsome profit on it," he concedes. But at the time, he points out, no one was complaining about it. "Everybody was making large dollars," Katz explains, "and, in a franchise business, if the franchisees are doing well, everybody's happy." The average payback to franchisees was six months; some, says Katz, "got back their entire investment in two months." Profit margins averaged 20%, and a number of franchisees became millionaires. Only the customers paying the big markups might have been tempted to complain, and, for the time being, they seemed happy enough.
For Katz, the benefits were even more impressive. Nutri/System went public over-the-counter in January 1981 (it is now traded on the New York Stock Exchange), and by late 1982 was trading at 48 1/8 a share, making Katz's 67% worth more than $300 million. The company moved into its new $2-million headquarters in Huntingdon Valley, Pa., another Philadelphia suburb, the centerpiece of which was the president's luxurious office. Katz acquired a house that wags dubbed "the castle," along with a $56,000 customized Cadillac Seville and the Philadelphia 76ers basketball team, of which he remains the sole owner. If the word ostentatious had not existed before, it would have been coined for Katz.
Back then, the company's only problems seemed to be finding ways to make use of the incredible cash flow and sustain the phenomenal growth. "They knew," observes James M. Meyer, an analyst who follows Nutri/System for Janney Montgomery Scott Inc., in Philadelphia, "that the United States could accommodate a finite number of centers, something in the 700 to 800 range, and that they had a two-or three-year window in which they could grow very rapidly to opening new ones." Beyond that he adds, "It became clear that they would have to make some fairly serious acquisitions."
Katz, for his part, was convinced that Nutri/System was more than a one-good-idea company. "I'd been in business for nearly 31 years," he says now, "and I'd hate to think that all I, and the people that I'd surrounded myself with, knew was weight loss. We knew franchising, we knew the service business; we were salesmen, marketers." The conviction still rings clear in his voice, but it is tempered by the recollection of subsequent events.
In August 1981, Nutri/System purchased Fox-Morris Associates, an executive placement firm based in Philadelphia, for $4.2 million. The following March, it acquired Gloria Marshall Figure Salons for $15.1 million, along with a cosmetics company, Nutrient Cosmetics Ltd., for $8 million cash. All were regarded by analysts as strong turnaround possibilities. "At the time, none of them were earning satisfactory levels of profit," says Meyer, "and I think Harold believed he could touch them with magic." Nutri/System also started a new company, Tele-Cut, a high-tech-look hair-styling salon that it intended to franchise.
Katz's touch, however, proved anything but golden: Soon after he bought them, all of the acquisitions slipped into losses and stayed there. A recession, unexpected competition, Nutri/System's ignorance of its new markets, and lack of management depth paved the way to disaster. The experience with Gloria Marshall Figure Salons was typical. Initially, the company was headed by Sid and Jenny Craig, who were among the former owners, then by Robert Berman, a former Nutri/System franchisee. Other Nutri/System personnel also came on board. But the synergism that Katz and Wall Street had hoped for simply wasn't there. Gloria Marshall did much of its business on credit, while Nutri/System's business was essentially cash. Gloria Marshall also had its own distinctive style."It was a rah-rah-rah type of thing, contests and sales promotions," Katz explains, lighting up a Veracruz. "We ran it in a more businesslike manner, until we realized that we were wrong. Then we went back to the rah-rah meetings."
The lack of a sure hand and a clear sense of direction was aggravated by changing market conditions. Gloria Marshall's utilitarian 1,400-to-2,000-square-foot facilities were rapidly being eclipsed by competitors' sybaritic gyms, complete with saunas and swimming pools, and by a change in what people were looking for. "We appealed to the lazier exerciser," says Katz, "and, as we got deeper into '82 and '83, sweat became the thing."
Even more important than the salons' large losses was the acquisition's impact on the morale of Nutri/System franchisees. "We began to get negative feedback from people who feared that Gloria Marshall would compete with their weight-loss centers," Katz remembers. Despite his reassurances, franchisees pointed out that the Gloria Marshall salons offered a computerized diet, a weight-maintenance program, and a special diet supplement, the latter introduced by Nutri/System.
"All of which," Katz says with a blast of cigar smoke, "led to the end of the honeymoon" between franchisor and franchisee.
As in a troubled marriage, distrust soon turned to paranoia. In January 1983, Harold Katz sold 670,000 shares of Nutri/System stock. Other insiders, The Wall Street Journal reported, were selling heavily, too. Robert Katz, Harold's brother and a vice-president of the company, unloaded 42,250 shares; marketing vice-president Norman Amster got rid of 58,250 shares; and national medical director Norman Horvitz sold 7,000 shares. On March 16, 1983, nine days after the end of the selling spree, the company announced that its third-quarter earnings would decline by as much as $1.8 million because of the projected closing of some of its unprofitable Gloria Marshall and Nutrient Cosmetics operations. Its stock, which had closed at $31 on March 15, finished at $23 on March 18.
Discussing the transactions, Katz told the Journal: "The reason is simple. At some point, people want to cash in." Others had different ideas. The Securities and Exchange Commission launched an investigation, although, to date, it has not initiated any charges. A group of stockholders brought suit, charging that Katz and other company officers had painted an overoptimistic picture of the company's finances.
In September 1983, Nutri/System sold off Nutrient Cosmetics; one of the new owners was Buccaneer-smoking Leslie Charm of Docktor Pet Centers and the YCK Group, a partnership specializing in turnarounds. Not all of Katz's problems, though, were so simply resolved.By then, Nutri/System's weight-loss centers, the source of its success and stability, were, like Gloria Marshall, competing in a new and more aggressive environment. "Our biggest competition," recalls Katz, "was do-it-yourself dieting. There were more diet books, more low-calorie recipe books; and businesses with tremendous reputations, such as Stouffer's, had gotten into the act with lines like Lean Cuisine." At the centers, traffic began to decline.
The company fought back: "If do-it-yourself dieting worked," one advertising campaign asked, "would you be heavy today?" But Nutri/System, to many, was yesterday's miracle, a stodgy matron out of step with the leotard-clad lovelies who were touting such programs as those offered by Weight Loss Clinics and The Diet Workshop. Soon, some of the centers were losing money as well as clients. A few were forced to close.
Remembering those times, Katz takes a long, thoughtful draw on his cigar, and points an accusing finger. "We had franchisees," he says, "who were making fortunes and were spoiled -- you ran an ad in the paper, and the phones just rang. . . . Then there were less calls, and the margins went down, and some of them began looking for a scapegoat." The first place they looked, Katz argues, was at the franchisor. "They lost sight of the fact that they had to provide great service," he says.
The franchisees found it equally easy to be critical of the parent. Poor training of personnel, minimal field support, lack of credit, late deliveries, unimaginative advertising (for which they paid a monthly royalty of 2% of gross receipts), and low-quality diet foods were among the grievances."Our client . . . found a three-inch wood stick in her Nutri/Flakes . . . and a black stone in her orange nectar," wrote the manager of one center. "A number of my clients told me that not even their pet cats would eat the Seafood Scampi and Seafood Marinara," complained another.
But if there was one issue that raised near-unanimous ire, it was the markup on Nutri/System food. The margins that had padded everyone's pockets in fat times seemed like the one thing franchisees could no longer live with -- and the one thing Nutri/System couldn't live without.
"One of my landlords was in the restaurant business," says David Heinig, who has an interest in five centers in Chicago and Wisconsin, "and he knows a lot about food costs. He took one look at my bills, and said, 'Oh, my God, that's high.' "But it hardly required an expert to spot the excess. "All it took to figure that out," adds Heinig, "was a trip to the local grocery store."
For Heinig, who had once been a sales manager with a pharmaceutical company, the "golden" markup was more than a point of concern, it was a matter of survival. "For the past six months, I have been losing money every month," Heinig later said in a court deposition. "I now find myself in an extremely tight cash position, with not much hope for change in the near future, if I continue selling Nutri/System foods. . . . Without the introduction of . . . [a] new food line into my centers, I will certainly not survive the summer and fall of 1984, but will be forced into bankruptcy, corporately and personally."
Other franchisees were also distraught. "The financial status of [my centers] is precarious," Charles A. Lindquist said of his Crystal Lake, Ill., operation. "We are operating with a loss, and will have to close the center if we must continue on the current basis." Ellen Dunn Dauw, with an interest in three centers in Iowa and Illinois, noted that one had gone from a net pretax profit of more than $35,000 in 1980 to a loss of more than $39,000 in 1983 -- in large part, she charged, because of the high cost of Nutri/System food.
The financial plight of some franchisees was aggravated by a discount promotion launched by Nutri/System in 1982. Not only did the promotion cut their profit margins even more, it also improved the competitive advantage already enjoyed by company-owned centers, which paid no royalties and no stiff markups on food.
With growing uncertainty and mistrust for the franchisor," Heinig recalled in his deposition, "we formed a franchisee association, which first met in Dundee, Ill., on October 15, 1982." That meeting, attended by 30 or 40 franchisees, was followed, in December, by a meeting in Scottsdale, Ariz., which attracted some 140 franchisees representing more than 300 centers. The Scottsdale meeting set up a Nutri/System franchisee association that incorporated as NSF Corp., with Heinig serving as the president.
Some of the organization's objectives were simple enough: to provide a forum for the exchange of ideas on promotion, advertising, and personnel, for example. The meetings also served as a bulletin board for such grievances as the allegation that Nutri/System was overcharging for other goods and services. A management conference in Acapulco, which was sponsored by the company, would have cost $1,198 for two people for five nights, Heinig charged, while a comparable seven-night package for two at the same hotel could be had for $630. A computer system offered by the company for $2,950, according to Heinig, was available from Radio Shack at a 15% volume discount.
But if there was a single, overriding goal at NSF, it was "leverage," and leverage in this case meant the ability to obtain food elsewhere. At the Scottsdale meeting, NSF voted to develop an alternative source of food, and asked Robert Katz, who was present, to provide it with Nutri/System's specifications for each food product.
That, to the Katzes, was roughly equivalent to a slap in the face with a glove. In January 1983, at Nutri/System's national management conference in Philadelphia, Harold Katz met Heinig. According to several depositions, Katz's greeting was, "Who the fuck do you think you are?" Later, at the company's dinner dance, Katz took the microphone to tell NSF members, "If you don't want to be a part of my family, then I'll buy you the fuck out." The franchisee association's members, say Heinig and others, were routinely intimidated; one, Robert Sheridan, claimed a company official told him, "You son of a bitch, you're trying to wreck our company." Eventually, says Heinig, he came to fear for his physical safety.
It wasn't long, moreover, before financial injuries were added to the insults. Katz announced that Nutri/System would introduce a new line of freeze-dried entrees that, on average, would cost consumers $1 more than the canned items they replaced. When the product line was introduced in May, the franchisees -- and their customers -- howled. "Many of us are not able to afford the $8.75 extra per week," wrote one customer. "Bring back the cans!!!" "It smacks of gouging -- price-wise," groused another." James Heeren, a franchisee with four centers in Illinois, noted that the higher prices were "causing a higher percentage of program drops than we have seen before."
That same month, a group of franchisees with 78 centers brought suit against Nutri/System, claiming that it violated antitrust laws by requiring them to buy food from the company; they sought $50 million in damages. In subsequent months, the number of plaintiffs grew rapidly. By the following January, there were 69 owners with 130 centers; by the time the suit was settled, the court's list of angry litigants represented 280 of the 550 franchised centers.
Katz, the man who had chosen "We Are Family" as the theme song for company get-togethers, portrayed himself as a beneficent father with ungrateful and head-strong children. "We thought they were jumping the gun, not looking at the total picture," he says. "They worried too much about our food margins, and didn't spend enough time running their businesses." But he was a father with his back against the wall. The use of an alternative source for food, he admits, "would have cut at the heart of Nutri/System." Heinig agrees that there wasn't much give. "We were talking about reducing food costs, which was a significant part of the company's income," he concedes, "so I guess you couldn't expect Harold to sit down and say, 'Great, guys, let's do it."
As the lawsuit began to unfold, NSF's search for an alternative food source continued. Its request for food specifications had gone unanswered, but it managed to reverse-engineer 45 new products from Nutri/System samples. Purchased elsewhere, NSF figured, the items would cost anywhere from 26% to 54% less. In December 1983 and January 1984, NSF submitted product samples to headquarters for the necessary approval; that route, the franchisees soon discovered, amounted to "an unreasonable and never-ending . . . process." Katz contends that the company was acting in good faith and with reasonable caution; his brother Robert argued in a deposition of his own that the quality of its foods was critical to Nutri/System's success, and warned that tampering with formulations might cause "serious and irreparable harm." Disgruntled franchisees felt that the company was doggedly dragging its heels.
In January, with NSF encouragement, nine "test" centers -- centers without restrictive food clauses in their franchise agreements -- began offering the alternative products side by side with the Nutri/System entrees. Customers liked the choice: The heavier but less expensive packages quickly outdistanced the freeze-dried ones by factors of from two-to-one to four-to-one. Nutri/System wasn't so happy. In early February, the company sent terse letters to the offenders: "We have learned that your . . . center is currently selling food products of unauthorized suppliers. . . . You are requested to cease immediately the sale of all unapproved food products."
January 1984 must have seemed to Katz like a doomed month. The alternative food had made its debut, and, on January 18, Nutri/System announced a $4-million out-of-court settlement of the class-action stockholders' suit filed the previous March. As the franchisees' lawsuit made its own way through the courts, the company's condition continued to worsen; its acquisitions were still a cash drain, its stock was sliding, and traffic at the weight-loss centers continued to drop. Katz, who had once been a publicist's dream, became more reclusive. One journalist with The Philadelphia Inquirer complained that Katz changed his home phone number every week. At one point, Katz refused to talk with the Inquirer's business reporters; the newspaper fielded its sports desk, which still enjoyed access thanks to Katz's ownership of the 76ers.
The period had its lighter moments. In one exchange, the plaintiff' attorney complained that "The defendant has noticed as many as 53 persons for 53 deposition dates, starting with January 2, 1984, a national holiday, and including February 30, 1984, a nonexisting day." But the humor was lost on Katz. When he talks about the lawsuit, Katz periodically slips into the third person, as though to distance himself from the unpleasantness. "It took a tremendous amount of Harold Katz's personal time," he observes. "I'm a doer, I hate wasted motion. . . . I got to the point where I believed that some individuals simply weren't grateful for the things we'd done for them." Katz's unattended Veracruz has grown cold, and he takes it up and relights it; there are at least four prime inches left. "There was a day when I asked myself, 'Is it worth it?" he says.
The litigation was also incapacitating the plaintiffs, who were hamstrung by a lack of direction and a loss of momentum. And it generated monumental legal fees. The plaintiffs' bill would eventually total some $750,000, while Nutri/System's soared to an estimated $2.5 million.
At its annual meeting in February, Nutri/System offered owners an assortment of five new "business formats" in what seemed a last-ditch attempt to achieve a truce. The new formats, the company argued, would significantly reshape the relationship between franchisor and franchisee, and would answer the franchisees' concerns. Katz reiterated the offer in a letter of March 1, writing emphatically of the need to "end the divisiveness." The proposal was rejected out of hand. Trying a new tack, the combatants decided to dispense with attorneys. Katz and Leonard Posnack, a franchisee based in Philadelphia who represented the plaintiffs, closeted themselves in an office for several weeks; their sweat and swearing yielded a tentative agreement. But these terms, too, were summarily rejected at a meeting of franchisees held in Chicago in early May.
Finally, Katz, Posnack, Heinig, and two other franchisees, Don Odle and Ed Richey, went into extended deliberation. "We met with Harold in his office, hour after hour . . . and went through it step by step," says Heinig. "At times you've got to speak your mind and be a man about it, and Harold did, but he was cooperative and very sensitive to issues." As the negotiations continued, it became clear to Katz that not only would Nutri/System lose much of its food margin -- that had become a given -- but that he would lose much of his control of the company. The franchisees wanted a direct say in decisions ranging from national advertising to food-product development.
Cooperative and sensitive he may have been, but the result of the negotiation was not quite what the franchisees might have anticipated. "That," says Katz, "is when I decided that I should probably sell the company. . . . Restrictions were being put on us, as a franchisor, that I, personally, would have had trouble living with."
Leslie Charm is an affable, over-weight fellow with an MBA from Harvard and few pretensions. He had been in banking and insurance before he and two friends formed YCK Group in 1972. YCK's express purpose was finding, buying, and restoring troubled companies. Docktor Pet Centers, its longest-held operation, "was a typical franchise story," Charm recalls, as he turns a new Buccaneer over in his hands. "It had been started by an entrepreneur who was a great franchise salesman, but then didn't deliver the service. There was no product in the warehouse, no one calling on franchisees, no promotions, no nothing. The company was facing X-million in lawsuits."
YCK took over management of Docktors in 1972 -- it has since purchased the company -- and in a modest, no-nonsense way, turned the company around; it is now heralded as "the nation's largest franchised chain of department stores for pets," with 212 stores in operation and 16 on the drawing board. In all, YCK owns three franchised companies, including Katz's former embarrassment, Nutrient Cosmetics. The three businesses together total 700 stores with annual revenues, at retail, of $200 million.
When Katz began to think about selling Nutri/System, Charm's name was one that came to mind.
"Harold's attorney approached us in May of 1984," Charm explains. "He said, 'You guys understand the franchise business, you understand trouble, you've been through litigation before . . . and you understand that, when you've had litigation and settle, a new face helps. . . .Harold wants to sell, and I believe you guys are really the right buyers. Would you be interested?" Charm indicated that, given a settlement, he would be.
Katz remembers the events a bit differently, claiming that a neutral third party brought the two interests together.
In any event, Nutri/System began to provide information to Charm. In early June, Katz, Heinig, Posnack, Richey, and Odle concluded their mini-marathon. On June 11, at yet another meeting in Chicago, the plaintiffs accepted the settlement. Under the terms of the 32-page agreement, Nutri/System cut its markup on food to 33% -- a major reduction -- absorbed distribution costs; and set up food, advertising, and advisory committees, in which the franchisees had a significant say. Loudly, everyone heaved a sigh of relief. Quietly, a copy of the settlement was delivered to Charm.
The obstacle of the lawsuit removed, Charm began to make discreet inquiries of his own. "I put people on the phone to call 35 franchisees who owned some 250 centers. They said, 'I'm thinking about buying a Nutri/System franchise; tell me about it." What Charm heard was what he had anticipated. "They complained about advertising, lack of service, the worsening situation over the years." Nutri/System, Charm concluded, had a solid concept and a viable market, but "hadn't done anything in three years." In short, it was his kind of business.
On September 10, 1984, Nutri/System announced that a group of investors -- headed by Charm -- would acquire the company for about $9 a share, or $87.5 million, with the final price to be determined once the Gloria Marshall salons were disposed of, a condition Charm insisted upon. (Katz had already decided either to divest or to shut down the salons, he says; the sale simply sped up the process.) For Katz, whose former 67% share had once been worth more than $300 million, the price represented a cold confrontation with reality: His 58% share now was worth $50.8 million. But there was no arguing that the figure was reasonable. The day after the announcement, Nutri/System was a big percentage gainer on Wall Street, climbing 1 1/8 to finish at 7 5/8. The company's $40 days were a dim, distant memory.
For franchisees who had survived months of confusion and turmoil, however, the sale was a bombshell. "We'd gone through a battle, and settled our differences," remarks Heinig, "and then, in the blink of a eye, Harold's selling the company." Charm made the rounds, personally talking with and reassuring franchisees. But he sensed their lingering trepidation. "They'd had all this litigation, and nobody had known what the hell was going to come out of it . . . so a lot of them had simply stopped working," he says.
Advised by Salomon Bros., Charm had intended to do a leveraged buyout. But as Nutri/System's returns continued to deteriorate, he found it increasingly difficult to raise the money, and asked for an extension. In October, the company reported lower revenues and net losses for the fourth quarter, as well as for the full fiscal year. "Its rate of earnings decline was faster than anybody had anticipated," says Charm. Everyone had expected that the new food margins and the closing of the Gloria Marshall salons would impact on revenues, but other factors -- the new committee structure, the lame-duck atmosphere, a continuing drop in traffic -- hadn't been plugged into the equation. "There's no question," Katz says, relighting his Veracruz one final time, "that the lame-duck period wasn't good for the franchisor or the franchisee."
Convinced that the company was no longer worth the $9 a share he had bid, Charm attempted to renegotiate the price. For Katz, whose net worth was quickly becoming a hypothetical issue, there was little room left in which to maneuver. Finally, on January 18, 1985, the negotiations broke off; the sale had fallen through. "I'd still buy the company today," says Charm." I think there's a price at which it's a very good company for someone." Whatever that price might be, however, it was not -- and so far is not -- Harold Katz's.
Suddenly, against all odds, Katz once more found himself the ongoing head and principal owner of Nutri/System. "I'm committed to making this thing work," he now declares when asked about the business. He talks about a new enthusiasm, a fresh sense of commitment on the part of employees and franchisees, a growing belief that Nutri/System can once more be everything it was in the past. "We want to get back that old feeling," he explains, "and we're convinced that we can do it." To all appearances, he is putting in long hours at the office again, taking work home, acting -- 13 years after he founded the company -- like a reborn entrepreneur.
Heinig and other franchisees seem equally hopeful. "The transition, since the time of the settlement, has been somewhat rocky," admits Heinig. "We thought that Harold was gone, and began dealing with the new group, but now we're focusing on Harold again. . . . And he's saying, 'I'm getting talent in here, we're going to start running again' -- well, that's music to my ears." Franchisees, Heinig says, now have more access to headquarters, the committee system is functioning better, and the company has signed with a new advertising agency. The lower food margins have also had a major impact: Although two of Heinig's five centers remain unprofitable, business is up at two, and one will be more profitable this year than it ever has been before. "Hell," says Heinig, "Harold has certainly done some amazing things in this business, and there's no reason to believe that he can't do amazing things in the future."
Katz would like to prove Heinig right. "I've never failed in my life, and I'm not about to fail now," Katz says."I'm back to the business that I love." He has cut Nutri/System's corporate staff by 140 employees (to 280), has put its monumental headquarters up for sale, has done away with an expensive pension plan, is considering various profit-sharing options, and has levied sizable pay cuts, "beginning with myself." Katz has also launched a search for a new chief executive officer. "For the benefit of everyone, it's important that we have a new CEO," he says, "some new life, some new thinking, somebody coming in clean." Katz will remain chairman.
Katz's pay cut is not going to land him on the streets of Philadelphia: His annual salary is going from $600,000 to $480,000. And whether his other changes are more than window dressing -- whether they can rebuild an organization that has been so thoroughly demoralized -- is something no one can yet say. The two sides, after reaching the point of divorce, now have to sleep in the same bed, and it is not surprising that both are putting the best face they can on the situation. "This company has taken a beating," Katz concedes, the stub of his Veracruz sitting precariously on an ashtray a few feet from his hand. "I think the suit did tremendous damage . . . but that's behind us now, and both of us -- the franchisor and the franchisee -- have learned from it. . . ."
"I need the guy," echoes Heinig. "If we're going to do well in the future, I've got no choice but to trust in Harold and his abilities."
James Meyer, the analyst, remains skeptical. "The $64,000 question," he says, "is when are we going to see a stabilization of traffic in the Nutri/System centers." A longer-term issue is whether Harold Katz is really in it for the duration.
"If somebody came in today and said, 'Here's cash on the table, $8 a share," Meyer says, "he'd own the company."