The Perfect Acquisition
When one business acquires another, the tenets of Western commerce have it that the acquired entity be paid for with cash or stock. Though basically unchanged, the rules are being read more loosely in this era of greenmail and white knights, and some intriguing turns have been taken. It's not unheard of, for example, that a seller may be so delighted to discover that someone is interested in its proffered operation -- a failing division of a large corporation, for example -- that the seller actually gives the buyer some money if only he'll take away the hapless enterprise and run it somewhere else.
So far, though, there's precious little in business texts that describes how a modest private company can purchase a going public concern for nothing down; how that buyer at the same time can convince the seller to guarantee to buy him out in a few years for several million dollars; and how the initial acquirer ends up not only awash in cash, but owning more than half the consolidated entity -- whose shares by then presumably will be soaring in the public market. The scheme sounds too good to be true, but if and when the founder of New York City's Perfect Courier Inc. emerges unscathed from the convoluted deal he forged last summer with competitor CitiPostal Corp., he intends to have everyone -- buyer, seller, and stockholder -- going home rich and happy.
It takes the mind of a lawyer and an accountant to have devised this flawless chain of events. And, according to the pair of certificates framed and hanging in his midtown office, that is exactly what Perfect's Norman Brodsky possesses -- plus a swashbuckling sense of business adventure."I don't do this for money," Brodsky insists, referring mainly to the time he puts in figuring out how to make money. "If I did it for the money, I'd sell my business today and go to Tahiti."
Brodsky entered entrepreneurship in 1979 and now, eight years later, expects to take in close to $30 million. His courier service has been listed on the INC. 500 ranking of private-business growth for the past three years, yet its 44-year-old founder works only three weeks a month."You have to be insane to drive yourself," he preaches to the deaf ears of his brethren.
If all goes well, Brodsky's sanity will win out on or before September 30, 1990, the last date on which CitiPostal can exercise its option to buy out Brodsky's Perfect Courier for $6 million. And CitiPostal's new chairman and president -- none other than Brodsky himself -- is confident that it will.
The two companies in finance's version of "I'm My Own Grandpa" are among the many wheeled fleets that collect packages in urban areas and ship them by specialty carriers, such as Federal Express and Airborne Express, for next-day delivery. Because they can consolidate the packages and earn discounts from the carriers, they are able to offer individual users customized service at a savings.
Both Perfect and CitiPostal work the streets of mid-Manhattan. But judging by their results, you'd never know that they did the same thing in the same place (although the former does it in eight cities). While Perfect was briskly expanding by means of internally generated funds, CitiPostal lost some $880,000 in the past year alone, and in less than two years had run through the $1.4 million it had raised in a stock placement. Aside from a $2-million tax loss carryforward, there were few assets left. As far as Brodsky could see, the five-year-old company was functioning only by dint of a factor's happily lending against receivables at six points over prime. CitiPostal stock, unable to qualify for listing on a regulated exchange, was stuck in the tundra of the over-the-counter's Pink Sheets, barely trading at 50? bid, $1 asked. The company clearly showed little promise.
"They were losing money, but they had a better caustomer base than I did, and better prices!" Brodsky reflects incredulously. "It shows there can be a business that's a natural profit maker, yet someone can lose money with it." The "someone" in CitiPostal's case was its two free-spending founders, who, overstaffing, overbenefiting, and overpaying, according to Brodsky, "had a lot to learn."
But Brodsky wasn't about to teach them. Instead, he flushed out the corporation's three major investors and reminded them that the company they owned was going down the tubes. "But I am here to tell you that I can bail you out," Brodsky proclaimed at their first meeting last March. "The only thing is, it won't be for charity: the executive officers have to go, and you have to give me half the company. Call it 53%, and I'll make us all a fortune."
Since those investors already had dropped more than $1.5 million on a similar promise two years back, they were doubtful. We want to see you make a fortune was the gist of their reply. "Well, for 53%," Brodsky took up the gauntlet, "I'll guarantee that, in the first fiscal year starting July 1, CitiPostal will do $10 million in sales and $1 million in pretax profit. If it doesn't, I'll give you back part of the stock." That sounds fair enough, the about-to-be-minority stockholders agreed. Brodsky's portion -- more than 8 million shares of common -- would be placed in escrow pending the end-of-year financials as of June 30, 1987.If his projections failed to materialize on that date, Brodsky would relinquish ownership in proportion to the shortfall of his vision.
Given a customer base expanded by 600 new businesses, each sending 2.5 packages per night and generating $6 million a year, a shortfall would be unlikely, since the profligate CitiPostal operation could be intertwined with lean and mean Perfect's. "They had only one problem," Brodsky concluded -- "overhead that would choke a horse." Where one section of Brodsky's service was employing 4 people, a similar operation at CitiPostal had 16 people running four specialized departments. "They were sitting around all day doing nothing," Brodsky says. "Their explanation was, 'We're going to grow bigger." Not wanting to lose more ground, he took over as president of CitiPostal on May 1, 1986, even before the deal was final, and started to trim the payroll. With Perfect Courier performing (and getting paid for) services for CitiPostal, that very June CitiPostal posted a monthly profit.
But Brodsky had more in mind than simply a miracle turnaround. He wanted to be majority owner of a public company. Being public automatically would place a price on and provide a market for Perfect should Brodsky want to cash out. And it would enable him to reward faithful employees with something more meaningful than a Christmas turkey. "For them to own shares of a private company doesn't mean too much. They could wipe their backsides with the paper if something were to happen to me," says Brodsky, who, nominally through his wife, Elaine, has retained 100% of Perfect Courier and Perfect Air Inc., a spin-off he created to help smooth the transition. But he isn't allowed to give employees stock in the publicly held company based on past performance in his private company. Key employees are, however, being granted stock options in CitiPostal.
CitiPostal was already public -- albeit barely. To achieve Brodsky's ends, CitiPostal's financials first had to be shaped up to where the company could qualify for a listing on an exchange. "With a public company, you have something that's real, something to look at," Brodsky feels. On NASDAQ, his chosen market, CitiPostal's visibility would enable him to go to the market for financing, which in turn would allow him to make yet further acquisitions.
With both scenes in mind, Brodsky granted CitiPostal an option to buy Perfect Courier for $6 million, exercisable between May 1988 and September 1990. If that happens, the short of it is that Brodsky will have sold his company to a public entity, yet have a majority interest in the combined corporation.
Handily, the company that is to decide whether to buy Perfect Courier for $6 million is controlled by the would-be recipient of the $6 million -- seemingly a nifty failsafe. Unfortunately, the rules of the SEC and the IRS tend to frown on such faits accomplis and won't allow Brodsky to buy his own company. So, in 1988, an arm's-length appraiser is to be hired to evaluate the deal and make sure it's good for CitiPostal. "They'd be crazy to turn it down," predicts Brodsky. "They'll get a terrific deal, because now they'll have one whole company with earnings such that Perfect is probably worth more as part of the public company. I won't have to increase my overhead a nit to pick up their business, and I'll end up with a chunk of money for 10 years' work."
Brodsky's bravado aside, there's a risk that the bottom will fall out of the localcourier industry, and CitiPostal (presuming it still exists then) may turn down the purchase option. If that's the case, in hindsight Brodsky would have done better taking cash and running to Tahiti.While the option is active, however, Perfect Courier cannot be sold to a third party, no matter how enticing the offer. On the other hand, if Brodsky decides he doesn't want to sell to CitiPostal after all, he could make Perfect's books look so nasty that stockholders would turn it down.
A person has to marvel at how little else is left to chance. And Brodsky does: "The big score for me is not the $6 million," he says, "it's the stock. That's where the leverage is. The cash gives me enough security so I don't have to worry." CitiPostal has been given the better part of two years to make up its mind, because it will take time to get an evaluation and then arrange to come up with the capital. If it turns out that when CitiPostal pays up, Brodsky's company is actually worth a lot more than the $6 million, then the price of the common stock, reflecting the combined value of a consolidated operation, will rise. With 8,281,344 shares in his portfolio, Brodsky is not apt to suffer from an inadvertent undervaluation of Perfect.
How will a company that has no net worth now be able to come up with $6 million in two years? By borrowing or floating more stock. In order to do that, however, its performance must merit the new financing. First, CitiPostal has to be rescued from the Pink Sheets and become a reporting company on a bona fide stock exchange. Thus, one of the first things Brodsky did, after the deal was sealed and he had installed himself as CitiPostal's president, was to apply for NASDAQ listing, among whose requisites are standards for assets, equity, and shareholders. First-quarter results showed pretax income of $621,910 on sales of $2,429,880. "I don't think I'll have a problem earning the $1 million," Brodsky concludes.
To accomplish the turnaround, Brodsky paid off the factor and loaned CitiPostal money himself at a lower rate, renegotiated vendor contracts, plugged procedures into his own automated system, and -- perhaps most important -- severely pared CitiPostal's payroll. Like most courier companies, CitiPostal's pickup fleet was comprised of independent owner/operators. "They started these part-time people at $7 for a job description that calls for $5 an hour," says Brodsky. "That's not so bad. But soon they went to $9. Still not that bad. But instead of the 5 hours of actual work, they clocked them in when they came in and out when they left. So they were working 40 hours a week. Still not bad. But after 35 hours, they paid them overtime. Still not bad. But they gave them vacation, sick days, and other benefits that a part-time job didn't call for. Add it all up, and they were paying tantamount to $20 an hour. That's bad!"
Perfect Courier undoubtedly is salable today for a substantial sum. But simply disposing of a business for the sake of putting a few million dollars in the bank is not Brodsky's style. "Most people don't take calculated risks, but I'm a gambler at heart," he admits. "I guess that's what an entrepreneur does."