TO UNDERSTAND TIM WAGNER'S feelings -- grief, rage, chagrin, and all the other emotions that bubbled up as his company slipped away -- you have to put yourself in his shoes.
You and two friends, all of you in your mid-twenties, hit on an idea for a business. Not just any idea -- the idea, you feel it in your bones. And bingo, you're right. Capital is there for the asking. Sales rise so quickly your plant can't keep up. In the first six months of production you do $3 million, with profitability just around the corner.
But somehow, in that same six months, everything begins to go horribly awry: the dream that is right there, in your grasp, turns bit by bit into a nightmare. Relations with your investors sour. You and your partners are stripped of control. You stay on as an employee, only to be rudely dismissed less than two months later. Desperate, you try to figure out some way of capitalizing on your interest in the business, though you have no way of knowing, just then, what it's worth. When you run out of possibilities you settle for $63,800 -- with the very people who booted you out.
And then, within a month, they have organized a private placement, selling a hefty chunk of stock to outside investors. By the terms of the offering, the company is worth nearly $6 million.
Once, 20% of that was to be yours. Now you have no company, no equity -- and no job.
In retrospect, the high point of Timothy Wagner's roller coaster had to be that wonderful June evening in 1985. It was party time, that night, at VMG Products, a wingding thrown to celebrate the beginning of production. And look at all those people. Bill Prater, the jovial money man from Seattle, along with Ken Breiland and most of the other investors Prater had helped line up. Several people from the food brokerage that had helped VMG's sales get off to such a stunning start. And everyone else -- suppliers, customers, employees, family, friends, so many that traffic was backed up for blocks outside the company's Vancouver, Wash., plant. Sometime that night, after the speeches and before the dancing, the new diaper production line would be christened, then ceremonially turned on. A few of VMG's Baby's Choice brand of disposable diapers would roll off the line, and the company Wagner and his partners started would be formally, officially, on its way.
Though he was happy, Wagner wasn't really surprised at VMG's bright prospects. He was only 25, but his business ventures had always turned out well. In high school, he and friend David Pitassi had sold more stuff on behalf of the band than anyone in recent memory. In college -- Wagner went to the University of Portland (Oregon), Pitassi to nearby Lewis and Clark College -- the pair had cleared nearly $50,000 on their "Pet Volcanoes," a novelty inspired by the 1980 eruption of Mount St. Helens. And though disposable diapers might seem an unlikely product for a startup, Wagner knew better. Soon after college he had worked as a salesman for National Starch & Chemical Corp., an industrial-adhesives maker. When the disposable-diaper people who bought their glue from him talked about their industry, he heard opportunity.
Two companies, Procter & Gamble Co. and Kimberly-Clark Corp., dominated the diaper marketplace, their three nationally advertised brands accounting for roughly 80% of sales. But that left 20% or so of a $2.5-billion market for a handful of private-label manufacturers. A diaper company producing and selling in the Pacific Northwest, Wagner figured, could compete handily in this segment by being a low-cost manufacturer. It could take advantage of new, efficient production machinery -- diaper lines, as they're called -- available from European manufacturers. It would be close to its raw materials, and it would have lower shipping costs to its market than any other manufacturer, none of which had plants any closer than California.
Concept in mind, Wagner got in touch with Pitassi and a college buddy of Pitassi's named Walter Klemp, then working as an accountant with Coopers & Lybrand in Portland. The three hit it off, and by April 1984 had come up with a 60-page business plan. VMG -- the name was derived from their middle initials -- would manufacture private-label diapers for supermarkets primarily in Oregon and Washington. It would start slowly, but would grow to sales of $15 million by its fifth year of operation. At Klemp's suggestion, they took the plan to William N. Prater Jr., head of Weatherly Private Capital, an investment firm in Seattle.
Prater liked what he saw -- the three eager young men, their persuasive plan, the money they convinced him was there to be made. To be sure, he cut back their proposal: instead of the roughly $1.4 million they wanted, Prater suggested a figure closer to $900,000. The rest could come from the bank, he said, secured by the diaper line they planned to buy. His proposal for structuring the deal was a little unusual. Instead of raising capital by selling stock in a corporation, he said, we'll set up a limited partnership. That will be quick and easy, and we'll structure it so you can work your way into a majority position.
To Wagner and his friends, it was exciting -- so exciting that they decided to go with Prater right away. Hell, how could they lose? Prater, an experienced investment packager, had promised to raise nearly a million dollars, just like that. Why bother taking the proposal elsewhere? They'd get a lawyer, of course, but only to check over the documents Prater was drawing up -- no need to involve one at this stage. By August, Weatherly had lined up the investors, the lawyers had given the paperwork the once-over, and the deal closed. VMG got $310,000 in cash and another $573,500 in promissory notes and loan guarantees.
Over the next several months, the trio's carefully worked-out business plan proved dead wrong on two significant counts. One, no supermarket chain was about to commit itself to a hefty private-label contract with an unknown supplier, let alone one run by three kids in their twenties. If something went wrong, the chain would be left with a black eye, a lot of hassles, and possibly no diapers. But two, the market for nonnational-brand disposables was suddenly much, much bigger than even Tim Wagner had thought. In January 1985, P&G had repositioned Pampers upward, and was now selling them for the same premium price as the company's own Luvs and Kimberly-Clark's Huggies. So far, no one had moved to fill the gap between cheap private-label diapers and these premium brands.
It was a niche, Wagner realized, made to order for VMG. Suppose the company produced its own brand? Because of its low costs it could undercut the national brands' wholesale price by about 12%. That would allow retailers to sell VMG's Baby's Choice for less than Pampers, yet make a higher profit. Unlike the original private-label plan, there was no risk to the supermarket. If Baby's Choice didn't sell, the retailer could just discontinue the order.
In early 1985, the founders took this new approach to Wes Main, president of Johnson-Lieber Inc., a regional food broker. Main loved it. Then, accompanied by Johnson-Lieber sales reps, marketing chief Pitassi began calling on potential customers, with results that have gone down in VMG's short history. Safeway Stores gave them an order after only one meeting. So did Albertson's. Fred Meyer, a regional chain, asked to be the one to introduce Baby's Choice in Portland. Meeting after meeting led to sales. Wagner had ordered the company's first diaper line back in September, right after the signing; due to arrive in April, it was delayed by a freak snowstorm and finally reached Vancouver in May. By the time it was ready to go, in June, its entire output was sold out.
That, of course, was what made the party so happy for Tim Wagner. The company was not just launched, it was on its way to instant, early success -- as much sales volume in year one, Wagner realized, as he and his partners had projected for year five. The climax of the celebration seemed fitting. When the time came, someone hit the switch. As the machinery went into action, one of the Italian mechanics sent by the manufacturer grabbed a bottle of champagne and shook it. Then he ceremoniously walked the length of the production line, aiming the foamy spray at every part of the machine he could see.
If only everyone had been as happy as Wagner. Kenneth Breiland, for example. Sure, it was a fine party, and yes, Breiland was glad sales were so strong. But as the biggest single investor in VMG -- up to $285,000 on the line, counting future commitments and loan guarantees -- he had other things on his mind. At a meeting that day, Breiland and the other limited partners had been told by Weatherly's Prater that VMG was short of cash, so they would have to come up with the second installment on their original pledges. OK so far. But then came the clincher: VMG was going to grow much faster than anticipated. Tim Wagner soon would be negotiating the purchase of three more diaper lines.
Three more diaper lines! Before the first one was generating any income? Breiland didn't know much about manufacturing; his wealth came from starting and selling real-estate title-insurance companies. But from where he sat the plan was crazy. The partnership agreement hadn't really contemplated the possibility of rapid growth. Maybe some money should be plowed back into the business, but this much and this fast? That diaper machine was supposed to be spinning off cash for its owners, not paying for its whole damn family to come over from Italy.
That day, Breiland met with several other worried limiteds. They'd better meet regularly, one proposed, to watch out for their interests. And it wouldn't hurt to talk directly with the three kids running the company, rather than relying solely on Weatherly for information. In a series of phone calls over the next couple of weeks, they told Wagner what was bothering them. Tim felt a little knot of frustration and worry begin to form in his stomach. Right in the middle of that knot was the VMG Products Limited Partnership agreement, the financial basis of his company.
Originally it had seemed so simple. The three founders would be one of two general partners in the venture. Weatherly would be the other -- acting in an administrative role, just to assuage investors who might be nervous about the founders' youth and lack of experience, Prater had explained. Neither one would put any significant cash into the deal; that would come from the limited partners. In return, the limiteds would be first in line for a payback, getting nearly all the net income from the diaper line until they recovered their original investment. Then their share would decline, stepwise, until they had earned seven times their capital. At that point the founders would get 60% of the partnership's income, the limiteds 30%, and Weatherly 10%.
Right there, Prater had said, was the beauty of the partnership structure. If he had set up a corporation right away, the founders would have had to give up most of the equity just to attract capital. This way they could work themselves up from 1% to what amounted to 60% ownership. But now Wagner couldn't help thinking that a partnership was exactly the wrong structure for a growing company. The limiteds had no interest in growth; every dollar plowed back into the business was a dollar that didn't get distributed. Worse, it wasn't clear who was in charge. The two general partners were supposed to agree before they took significant action. The limiteds had no day-to-day authority -- but they did have the power, if it came to that, to kick out either or both of the generals.
For a while Wagner had more pressing matters to worry about. The diaper line was running almost flat out that summer -- three shifts a day, at least five days a week -- and half the time the founders seemed to be down on the floor with the production manager and his handful of employees. Tape the cases by hand. Walk them up the line, if you have to -- right into the waiting truck. We're out of bags for size medium? Damn. Shut the line down -- we'll have to run large for a while. Finally the trio decided to cancel their advertising, put their customers on allocation, and build up some inventory. It was the only way, they figured, they'd ever overcome the chaos and the bottlenecks.
The action at the plant, though hectic, was at least upbeat. Wagner couldn't say the same for the action at the corporate level, which only seemed to add to the knot in his stomach. In July, Breiland and his group of limiteds wrote a letter accusing Prater of blindsiding them at the June meeting about the purchase of additional diaper machines. Prater got mad, and told the three founders not to talk to the limiteds anymore. Breiland's group had the last word: the founders, they said, should watch out for Joe Schocken. Schocken, himself a limited, had subsequently joined Weatherly as a partner. Schocken is in Prater's camp, they told Wagner. Watch out -- or they'll find a way to squeeze us all out.
It was all innuendo, all paranoia, Wagner told himself; there was a successful company at stake here, and everyone was jockeying for position. But his nervousness grew as the summer progressed. The company's cash flow was spotty because of the bottlenecks. The inventory buildup was going to be costly. In a few months they would need a big infusion of cash to take delivery on the diaper machines. They had to come up with a plan for attracting more investment, and soon. Could he trust Weatherly? In August, he, Pitassi, and Klemp met with Prater to discuss transforming VMG into a corporation that would raise capital by selling stock. That meeting, and subsequent ones, only worsened Wagner's sense of foreboding. Every issue -- from figuring out the limiteds' payback rights to negotiating ownership shares -- seemed to become a matter of bitter contention.
When Prater issued his first written incorporation proposal, dated September 24, Wagner was appalled. He and the other two founders had figured that their equity in a new corporation should be around 60%, with appropriate long-term notes for the limiteds. Now Prater was proposing to give them less than half the stock -- and to take 15% for Weatherly, as compensation for its efforts. Plus Weatherly was to get a $90,000 annual banking fee. For the first time the founders engaged outside counsel, lawyers from the Portland firm of Perkins Coie. The lawyers advised them not to respond right away -- stall for time and maybe we can figure out a better solution.
Time, however, was exactly what they didn't have. By late October, VMG's payables had passed the $800,000 point. The limiteds reluctantly agreed to lend the company more money -- but, they said, it had to be restructured quickly. Incredibly, Ken Breiland remembers, the founders and Weatherly still couldn't come to terms. To Wagner, the reason was painfully simple: Weatherly was still trying to con them into giving up too much of their company. As Pitassi later put it, they said, We'll give you the cash, but let us have your wife.
Finally Breiland decided to take action. As long as the two general partners were at loggerheads, the company couldn't incorporate or raise the critically important capital. Without that capital, VMG might not survive. The only action the limiteds could take, as a group, was to remove one or both of the general partners. And there was no doubt in his mind about which one it would be. Even if he had wanted to kick out Weatherly, Breiland knew his group didn't have the votes. And by now, he felt, it was the kids who were holding things up. The limiteds and Weatherly had agreed on several restructuring proposals. But the founders seemed to reject everything they came up with.
Looking back, Wagner realizes he didn't really expect it. Words had been flying back and forth that November, and when he had first heard the limiteds' threat to remove one of the general partners he had assumed it was just that, a threat. How could they kick out the founders of the company? Nor did he realize how precarious the founders' situation was vis-a-vis Weatherly. Removing a general partner required agreement among limited partners holding 80% of the partnership. One of the limiteds, Schocken, controlled 16% -- and he had been an employee of Weatherly for a year now. So if only one other limited voted with Schocken, Weatherly was the winner.
When the vote was taken, on November 17, there were no dissenters.
Next day, the three founders went to work at VMG as usual. When they saw Ken Breiland and Joe Schocken pulling up in the parking lot, they thought the worst might have happened. A quick call to the limiteds' attorney confirmed it. They were ousted as general partner. Breiland and Schocken -- strange bedfellows, given Breiland's earlier mistrust of Schocken -- had been sent to inform the founders.
After a brief conversation, Pitassi and Klemp left the plant and drove to their lawyer's office. Wagner said he'd stay. In an hour or so, Pitassi called. Tell them we'll meet them at our attorney's this afternoon, he said to Wagner. If we hang together, they'll have to negotiate.
Wagner was in no mood to fight. Now was the time to accommodate, he felt; now was the time, above all, not to jeopardize the company. If the three founders left -- or if they got into a knock-down, drag-out legal battle -- how could it survive? Besides, he needed money. Walking down to the production manager's office, Wagner realized he was shaking. He had to go back and meet with the two envoys. What on earth was he going to tell them?
Confused, upset, wondering about his future and that of the company he founded, Wagner made a sudden decision to switch sides. He told Breiland and Schocken that he wanted to stay on. The next day, he signed a hastily drafted employment contract. For $85,000 a year he would assume "senior responsibilities" for production and purchasing. Breiland and Schocken would endeavor to get him a seat on the board, when it was incorporated, and he could be dismissed only "for cause" -- theft, disloyalty, or "interference with business relationships." His friendship with Pitassi and Klemp had come to an abrupt and unpleasant end that very day, Wagner knew. But maybe he could salvage his baby.
The next few weeks weren't auspicious. The day after he signed, Wagner learned that Schocken would be in charge for a while. Wagner fumed; Schocken had been a partner in Weatherly, and working for him was like being aide-de-camp to an enemy colonel. But maybe it would only be temporary. The real problem was that neither Schocken nor Breiland would ever give him a straight answer about the company's financial situation. His chief responsibility was keeping an even flow of materials and supplies coming in, which meant negotiating payment arrangements with nervous vendors. How could he do it if he didn't know where VMG stood financially?
In early January, depressed and anxious, Wagner left on a long-postponed three-day vacation to Las Vegas, which he would combine with a sales call in Walnut Creek, Calif. Klemp reached him by phone in Vegas. Yes, he was still mad, but he thought Wagner should know something was up back at the plant. No, Klemp couldn't be specific. Wagner waited a few days, then called Breiland. Breiland said they'd discuss his concerns Monday.
On Monday, January 13, 1986, Ken Breiland handed Wagner a three-page letter firing him.
Wagner, stunned, looked through it. He couldn't believe what he was reading. There were charges that the plant had had to be shut down because of foul-ups with suppliers. There were allegations that Wagner had misled Breiland. But where was the warning? Where was the "cause" as his employment contract defined it? Wagner had been working hard, doing his best -- he could explain the difficulties and the misunderstandings. He stood facing Breiland in the company conference room, fighting for control. "This is wrong," he managed to get out. "This is wrong." Then his control was gone: he collapsed at the table and cried for what felt like an hour. Breiland left the room. Wagner called his wife and went home.
Once he was home, fury began to replace grief. How could Breiland do this? You can't, you just can't, dismiss a company's founder without any warning. Sure he had made some mistakes, and he'd admit them. But to blame all those troubles on him! He wrote up a letter. He'd fire it off, and then . . .
Right. Reality took hold. He'd fire it off -- to the same limited partners who had removed him and his friends and had installed Breiland. When he sent the letter anyway, three days later, it was like shouting in the forest: no one responded, and nothing happened.
Suddenly the gravity of his situation hit him. It was the middle of January. He had no money and no job. All he had left was his interest in VMG. And how much was that? No one could say. Technically, he and his two cofounders still owned only 1% of the partnership's interests -- their starting point. But the various incorporation proposals had promised them something close to half of VMG's stock. Legally, his lawyer said, a case could be made that they owned maybe 30% or 40%. It was just a matter of negotiation.
Maybe, just maybe, there was one last chance. Wagner had heard the name Dick Lentz frequently, not least from Bill Prater. Lentz ran Union Bay Sportswear Ltd., in Seattle, and was interested in acquisitions. Wagner called Lentz, then went to see him. Yes, Lentz might be interested in acquiring VMG. He would send some people down to Vancouver to look over VMG's operation.
In retrospect, Wagner thought ruefully, what seemed to him like a last chance must have seemed like the last straw to the others. For if they played hardball before, now they seemed to be playing beanball. First came the rumors. Someone had called him an embezzler. Someone else said he was a cocaine addict. Breiland reported that someone had left a death threat on his answering machine -- was it just a prank, he wondered, or had Wagner done it? More nervous than ever, Wagner volunteered to take a polygraph test. But the matter was dropped. Lentz, the erstwhile acquirer, backed off.
Then began the negotiations. Cloyce Smith, hired in December as VMG's vice-president of marketing, talked with Wagner about his interest in the company. VMG was still short of cash, Wagner knew, and all the discord had tarnished its name among potential investors. Who else would buy what he was selling? To be sure, he had his employment contract, but -- broke and dispirited -- he had no idea how much either the contract or his undefined interest in the company might be worth. Finally, he agreed to settle all his claims for $63,800. On March 11, 1986, his association with the company he founded came to an end. Shortly after, Pitassi and Klemp settled as well.
In the year that has passed since then, many of Wagner's business judgments have been vindicated. VMG is ensconced in a brand-new plant on the banks of the Columbia River, its two diaper lines running close to capacity and a third due to arrive any day. In 1986 it did an estimated $20 million in sales, and it has recently become a private-label supplier for Payless Drug Northwest Inc. Not surprisingly, other paper-products companies have discovered VMG's middle-market niche. Wagner and his partners were right to plan for growth; without it they might have lost their markets to competitors.
"If it wasn't for Tim," says Ken Breiland, sitting in the conference room across from his chief executive officer's office, "this whole thing wouldn't exist."
For Wagner himself, though, the past 12 months have been as hard as what preceded them. In April, with VMG finally incorporated, Weatherly sponsored a private placement of stock, selling 23% of the company for $1.4 million. To Tim, the information was shattering. Breiland's 600,000 shares were now worth well over a million dollars. Prater's 465,000 -- he got his 15%, Wagner reflected bitterly -- were worth nearly a million. Realistically, Wagner didn't know how much more he could have gotten if he had held out; by Prater's reckoning Wagner and his partners each owned only 0.33% of the company when they settled, and the outcome of a long legal battle was always uncertain. But the numbers were no less galling. If the threesome had the 60% ownership they had been slated for, they'd all be millionaires by now.
Nor did Wagner's luck improve later in the year. At first he figured he would try to start another company and repeat his success -- not in baby diapers, where the market was getting crowded, but in diapers for adult incontinents, where he thought he had spotted a niche. He drew up a business plan, began to raise money, and tried to open a plant in Sacramento. But it didn't work. "Every time we got close," he says, "someone involved with VMG would be contacted, and something negative would come out." Today he works as a disposables-product manager for Pope & Talbot Inc., a timber-and-paper company based in Portland.
The lessons of all this adversity haven't been wholly lost. Wagner understands a good deal of how he and his partners "managed to screw it up," as he says, with VMG. He knows he set up the original partnership precipitously, naively. He knows he failed to reckon with the greed and jockeying for position that a successful company would engender, and he kicks himself for not seeing how precarious his position really was. He has few excuses other than the one that is incontrovertible: "We were young. We were in over our heads." He even regrets staying on to run the company at the cost of his friendships with Pitassi and Klemp. "I wish I'd never done that," he says.
For all the understanding, the emotions remain strong. Anger -- not so much at Breiland, whom he still seems to like, as at Prater, who he feels misled him. Humiliation that he let himself be squeezed out of the company he founded, and frustration that he came away from so much with so little. Most of all, when Wagner thinks about how close he came, the hurt.
"This was my dream," Tim Wagner says. "I can't get it out of my mind."