In building his fast-growing business, Norman Brodsky made only one mistake. Unfortunately, it was the one mistake he couldn't afford
You do it once -- "it" referring to the creation of a breathtakingly successful business -- and become convinced you can do it again. Such was his state of mind when Norman Brodsky made his one, and only, mistake: an ill-advised acquisition. While many readers will find much to admire in Brodsky's attempts to recover from his blunder, still others will choose to reflect on the hubris of a man convinced he could take an operation -- any operation -- and bend it to his will. -- R.A.M .
A guy goes to the track, puts down $2 on the first race, and wins. He bets the pile on the second and wins again. He risks that on the third, and so on. Eventually he's ahead $800,000, and -- what the hell -- lets everything ride on the last race. The horse finishes out of the money. When the man gets home, his wife asks how he fared. "I lost $2," he confides.
New York City businessman Norman A. Brodsky, a familiar figure on the Inc. how-to-run-a-small-company lecture circuit, tells this story when he shares pointers on creative financing, because it gives his listeners an insight into the illusive quality of fast growth. But the lecturer himself doesn't find the punch line all that funny: he's had it come and go just as starkly in real life.
Before it went, he had parlayed his paper fortune past $20 million; hardly one year later those same holdings had shriveled to less than $100,000. "I shouldn't have looked for as much growth as possible," the affable Brodsky is first to admit. "My aim when I started was to have the satisfaction of growing a company from scratch, but I lost sight of that somewhere along the line. I should have left well enough alone." That may seem an uncharacteristically humbling self-appraisal for those who know the man, but it's supported by the numbers: five banks, three leasing companies, two landlords, hundreds of stockholders, and more than 3,000 unpaid vendors undoubtedly would agree with him.
"If I had stayed with my company the way it was," he says regretfully, "it would be coining more money than I could possibly spend." Unfortunately, that prospect was as unthinkable to Norman Brodsky as having more shoes than she could possibly wear would be to Imelda Marcos. If his Seventh Avenue deals didn't match the eloquence of Wall Street's, certainly they were notable on their own brazen terms (indeed, were noted: see Inc., January 1987). By reverse-merging part of Perfect Courier Ltd., the modest delivery service he had started in 1979, into down-at-the-heels CitiPostal Inc., he simultaneously expanded his customer base, got rid of a competitor, and went public, all without spending a dime. So sure was Brodsky of forging a stronger-than-the-parts whole that among the terms of the intricate deal was a $6-million buyout provision of the remaining part of his Perfect Courier as soon as there was enough money in CitiPostal's till. "My lifetime security," is how he thought of it. As CEO of a public company, probably there were other uses for the money that would benefit all stockholders, but perhaps Brodsky reasoned that the sum was merited simply for his having had the chutzpah to bring the thing off.
After firing the overpaid and underworking CitiPostal crew and combining operations with his own lean bunch, the arrival of his nest egg appeared imminent. When the very first quarter showed a healthy gain, Brodsky whisked the ailing stock of CitiPostal from the Pink Sheets, where it had been languishing at $2 a share (adjusted for a subsequent one-for-four split), to high visibility in NASDAQ's active National Market, a listing for which its suddenly sound capital position made it eligible. On June 30, 1987, he closed out his first fiscal year at CitiPostal's helm with a $2.5-million pretax profit on sales of $10 million. The stock price rapidly quintupled, driving the company's market value past $40 million. About half belonged to our man in Manhattan, who in less than two years had engineered a well-endowed retirement.
Except that some hacker must have snuck in and virused the ending. On September 28, 1988, CitiPostal filed for Chapter 11 protection, barely 13 months after Brodsky had expanded yet farther by acquiring Sky Courier Network Inc., in Reston, Va. But the long arm of the court didn't reach quite far enough: back home on Long Island, even as CitiPostal shares were fetching a meager 1/16th of a dollar each, a creditor brandishing a personal guarantee grabbed every penny out of the family checking account.
So here Brodsky is at 46, short again of both capital and sleep, scrapping for sales against half a dozen other courier services in the streets of the city like he used to 10 years back. But adding insult to injury, now he has to operate according to a judge's dictate and under a committee's scrutiny -- reins that rankle the games-player in him. "I don't like having my destiny pinned to other people's decisions," the heretofore freewheeling Brodsky is given to complain.
CitiPostal's tournament-class swoon began early in 1987, when Brodsky first felt the itch to own another company. What else to do with $1.3 million in surplus capital, he rationalized to himself. To his board, he rationalized, "there are a number of mom-and-pop [courier] shops still around. Most of them are manual, but we are computerized. There would be significant economies of scale." Gathering yet more capital, he sold convertible debentures to a group of outside investors so eager to throw money into the revivified corporation that the initially intended flotation of $2.5 million had to be doubled to $5 million to do them the favor. "I was awash in money for the first time in my life," he reminisces fondly. And not only did he have all that in the bank, but beyond was untested borrowing power as well. The world of pickup and delivery was his oyster.
"The next thing that happens is I end up purchasing Sky Courier," Brodsky spins his soon-to-turn-tragic tale. What he fails to mention is that Sky Courier Network and its subsidiaries, then doing about $52 million a year, mostly as a same-day package expediter, were clearly on their way out the mail chute. Pinned under $9.3 million of long-term debt and with negative working capital of $15.3 million, Sky's condition was so pathetic that when its operations are theoretically restated as part of CitiPostal's (an exercise public companies perform when they acquire private ones), net income for FY '87 goes from plus $1.1 million, or 25 a share, to minus $10 million, or a loss of $2.19 on each of those same shares. "This looks terrific," Brodsky enthused, rising to the challenge like a bricklayer after an earthquake. "I'm going to buy it outright."
The balance sheet was tough, he grants, "but not impossible. The negative working capital included all the write-offs. In a private company, over an extended period of time, things collect on the balance sheet that don't belong there -- bad debts, for example. We took a careful look at everything and wrote it all off at once. I knew we were going to have to absorb losses for a short period, but I had taken other companies with just as bad balance sheets and done it." By which he means combining overlapping operating segments to reduce overhead and, ipso facto, create an automatic profit.
Besides, the price was little enough. To merge 100% of Sky Courier plus a 55%-owned subsidiary into CitiPostal, he claims to have spent only a few hundred thousand dollars in cash (and we'll take his word: anyone who can find the exact amount in subsequent financial statements would be capable of running the Fed). The rest was financed via common stock and promissory notes. Brodsky seized the moment to exercise CitiPostal's buyout of the remainder of Perfect Courier by taking the entire amount in the form of a $6-million note due in 1990, on which he was to be paid $480,000 a year interest. On top of that, he rewarded his executive acumen with a salary of some $300,000 a year, and that of his new operating officer -- an investor in Sky who had brought the deal to Brodsky's attention -- with a salary of $225,000.
Then he reorganized. It makes sense to fold these companies all together, he reflected -- a surmise noble in theory, but swiftly to prove fatal in practice. In bold strokes, he made the accounting staffs one, the ground offices one, the air offices one, and pronounced, "we have one company."
And he saw that it was bad.
Some salesmen must have "gotten to the pricers" to lower quotes and fatten their commissions, he feared on closer examination, insofar as the company was servicing an extraordinary number of sales at a loss. Furthermore, the huge 60-person sales force operated under what Brodsky calls "a Death Club," whereby accounts forfeited by departed salespeople went to whoever had been there the longest, rather than reverting to a commissionless house account. "There were antiquated guys earning $300,000 a year in commissions," Brodsky was horrified to find, "and they couldn't even sell."
Worse, he discovered that the not-even-one-year-old subsidiary, which was now responsible for SEC-regulated disclosure like everyone else under the corporate shell, "was not doing things of a public-company nature." To wit, not only were some of the principals personally taking home in excess of $25,000 a month in addition to their salaries while letting the company's rent and telephone bills slide, they were also neglecting to pay withholding taxes. When Brodsky tried to summon the three other owners -- who, despite their minority, had retained 50% voting rights -- to review the situation, they disdained to show up. So he plunked down another $1.8 million in cash and future considerations and bought the rascals out. Then he plunged into the corporate archives, unearthing a trail of urgent correspondence from the IRS that the former regime had responded to by ignoring. Not only did with-holding and other payroll tax obligations and potential penalties add up to $750,000, but his former partners hadn't even filed them!
How had malfeasance so flagrant escaped notice? "I have to question my own ability to do due diligence," Brodsky was to confess. So, apparently, should the Big Eight accountants who, according to Brodsky, shrugged off their failure to flag the problem by insisting it was simply a payable like any other. Even so, says a Wall Streeter who followed CitiPostal closely: "If he had consulted with any competent investment banker on the Street and said, 'I'm contemplating buying this company in Virginia for a big number, could you take a look at it?' they would have told him 'What, are you a lunatic?' It was there to see."
Words alone cannot do justice to the mayhem that lay before Brodsky. However, some figures comparing CitiPostal's first six months after the acquisition (to December 31, 1987) with the same period the previous year -- before the acquisition -- may provide perspective:
* Cash: decreased by nearly $4 million
* Receivables: increased by $9.1 million
* Bank loans: increased by $6.7 million
* Current notes payable: increased by nearly $2 million
* Accounts payable: increased by $11.9 million
For this mess, he had agreed to pay the prior owners nearly $3 million for noncompete agreements? Better to have let them compete and to go broke in a week.
To two airlines alone, the business owed more than $1.2 million, an obligation that had to be cleaned up lest overseas service be forced to shut down. It would have helped if that pile of receivables were easily collected, but a large amount was from foreign clients impossible to dun from mid-Manhattan. In one capital lease, the new company was on the hook for $15,000 a month for a sophisticated phone setup it didn't need. "That system could have run Boeing aircraft," Brodsky moaned, blaming the leasing outfit for slick-talking his inept predecessors. "How can you sell a company that in '85 didn't even have its financial statements up-to-date a piece of equipment that far exceeds its needs, then loan $750,000 against it? It blows my mind!" And his checkbook: there was $550,000 still to go. Brodsky asked the lessor to let him stretch out payments. "They'd be foolish not to go along," he calculated, "since they'd only get a dime on the dollar if they junked it as collateral."
None of this was covered in management texts. "Sky Courier was too different a business [from CitiPostal]," he admitted. "Where we were labor-intensive, they were vendor-intensive. It will be a snowy day in July before I expand into an unfamiliar field again," he swore to himself. No matter what steps he took to cut costs as you're supposed to, his kept coming out wrong. Going for broke, he wiped the old sales slate clean and hired an entirely new team -- and sales dropped. When he curtailed drivers' time-and-a-half plums, they sulked and slowed down. "Never cut anyone's salary," Brodsky decided. "Terminate them instead, because they're not the same employee." So he terminated them instead. But to keep the specialized operations running smoothly, he got rid of only two or three at a time. No go there, either. "An ax hung over the rest of their heads, and that didn't help."
In the midst of the struggle, fax machines came on strong, Brodsky complained. "That alone didn't kill us," he grants, "but it did drive a nail into the coffin." Another nail was pounded in by Brodsky himself. "When my company was smaller, I ran every single aspect; I listened to other people, but the ideas were mine and I enforced them. As you get bigger, you can't do that. I took over a company that was twice our size, and I was in trouble every day, so I let the healthy part of the business slide away. What happens is you don't pay attention to basic things."
Within 13 months he had gone through almost $10 million "like water." One day his fellow managers came in and insisted CitiPostal couldn't survive any longer: we're flat broke and can't make payments, they advised their leader. "Look, some things you have to pay to stay alive, but there are lots you don't have to," Brodsky snapped. "From now on, I'll approve sending out the money." Among those deemed skippable were the landlords of Sky Courier's Virginia facilities, who already had unrented space on their hands. "They're caught in a bind," Brodsky saw, "so they can't kick us out." Similarly, one leasing company had already taken the profit out of its loan and sold it to a bank. "If they have to turn around and pay back the bank," Brodsky figured, "they have a serious problem, so they have much less leverage with me."
However intricate, the tactics of delay get you only so far. "We were burdened with such tremendous debt that we couldn't get out from under it in time," Brodsky at last conceded. He had to find more capital. And, miracle of miracles, he found some in an investor willing to buy a $1.5-million promissory note as part of a deal for some stock options. The payment was to be made on October 19 -- wouldn't you know it, Meltdown Monday. When the market plunge worsened and the check had yet to arrive, Brodsky's attorney fretted that the buyer might have elected to wait. "Ask him to wire the money," Brodsky instructed. "That would be an insult," advised the lawyer. "Then insult him."
The sum arrived on schedule, but it didn't stem the falling tide. CitiPostal's theretofore reliable core business, which in large part catered to suddenly-out-of-work financial printers, now decayed. "Here we are, stretching out our payables and getting banks to loan us a bit of extra money, and along comes the Crash," Brodsky bemoaned his fortune. The sales slump caused a reduction of CitiPostal's lines of credit, and the capital crunch continued.
Well, things could be worse -- and sure enough, they were. One fall day Brodsky got home and his wife asked how he was faring. "What do you mean?" wondered Brodsky. "All these certified letters came," said Mrs. B., showing him a stack some three-dozen thick, "and each of them says you have 60 days to find a new bank." A lender with whom he had been factoring receivables for four years had launched the barrage to notify him that it was shutting down its asset-based lending division; Brodsky had two months to pay off the $2.7 million he owed. Every CitiPostal subsidiary was a recipient of the identical document, addressed to the missus as cosigner of the notes. "At least they could have called on the phone," he cursed, "and talked to me personally."
Eventually they extended that courtesy. The bank's workout department dogged him like a loan-shark enforcer: Mr. Brodsky, you have only 25 days left, 15 days left. "Our earnings are plunging, and we're supposed to find a new bank?" Mr. Brodsky hemmed, not expecting an answer. The bank answered, however: "If you don't pay it back, we'll put you out of business." And well it could. On December 31, 1987, CitiPostal's balance sheet showed $5.5 million in equity and more than $41 million of current and long-term debt. "I am in trouble," Brodsky recognized, "and there's no way out."
Come to think of it, maybe there was: an investment banker whose specialty was secondary financings of small, public companies. Hoping to pick up some underwriting business, its president had solicited Brodsky in CitiPostal's heyday, but back then he, Brodsky, wasn't interested. Now that it was heynight, why not? Brodsky couriered over a package attesting to the immediacy of his needs.
"I took one look at it," the underwriter recalls, "and thought, this is embarrassing. No company can exist with this capital structure. Here I had tried hard to get a piece of CitiPostal's business, and now when I see it up close, it's a basket case." To test his view, he solicited a prominent investor who had put some early money into CitiPostal to advance some additional capital -- maybe an infusion from so prestigious a source would attract others and save the day. The word came back: why give Brodsky any more money?
The underwriter's discreet way of discouraging Brodsky's hope for new financing was to compose "a very tough term sheet" so that Brodsky would have to reject the notion. Among the stipulations was that nonbank debt be restructured. Get them to recap: anyone Brodsky owed had to take stock equity in the company instead. "It can't be done!" Brodsky objected. Well, one way to try, it was suggested, would be for Brodsky to write off his note, interest and all. "You can't go to those people and ask them to convert their preferred position to capital stock while you keep your $6 million on the books."
Responded Brodsky: "Oh, sure, one thing I need is more stock!" And out the door he went in the predicted miff.
A few weeks later, still no solution. Maybe the guy had something after all, Brodsky began to think. As spring approached, CitiPostal's stock was around $3.50 -- down 65% from its high, but not too shabby nonetheless given the pro forma particulars. So Brodsky made the rounds of potential reinvestors. "Listen, things aren't going too well," he confided. "We made a few mistakes, we had a few surprises, some events went against us. But the company is still viable, and we could use $3.5 million of new money. The first $1.5 million we raise, I'll put up 20% of, but we need that $1.5 million right away."
He got the $1.5 million right then, with Brodsky himself not only converting his note into stock, but injecting a fresh $300,000 as pledged. As the stock price slid farther, he quoted freely from the writing on the wall. "The truth of the matter is, I can't pay you cash for the company, so why don't you change the notes to stock." He convinced most of the holders of the April '87 convertible flotation to convert at $2.50 a share, wiping $4.3 million of debt off the books. Even so, it was clear CitiPostal would be broke by the end of the summer. The bank had yet to be replaced, and Brodsky required $2 million more in working capital merely to keep vendors at bay. So back to the underwriter. What other ideas do you have? he asked. Visit everybody again, he was advised. "Go back to the people who have money in the company, and tell them to put more money in the company?" Brodsky was incredulous. "Do you know what it's like to keep going back to your investors? They lose faith in you."
In all, he was able to convert some $15 million worth of soft debt into common stock in about 30 days, a feat that Midas himself would have applauded. It wasn't the same as fresh working capital, but the recapitalization stood to save over $1.2 million a year in interest payments. "At first I was afraid to say, 'Give us the money and accept our terms,' " Brodsky recounts, "until I realized the banks, the SBICs, the wealthy guys, they were more used to it than I was."
With newfound self-assurance, Brodsky contacted his creditors, rather than wait for them to contact -- and scream at -- him. I'm up against it, he confided, and here's how you can help: put aside what we owe you and we'll come back to that in six months. Now, give us credit and we'll pay you that in 60 days. "It's amazing what you can do when you're up front," he learned. "As badly as you want to stay in business, they want you to stay in business more."
A bank that was owed $1 million he asked to accept a lump sum of six months' interest following six months with no payments, then to agree to graduated payments on principal over five years. "This is like being out of work: you learn to survive," he reflected shakily in midsummer. "I'm on a ledge, but I'm probably safe for eight months to a year. Six weeks ago I was desperate. The balance sheet is not too bad now, and it'll look better when I'm done." Actually, the balance sheet showed about $8.1 million in current assets versus about $18.6 million in current liabilities, but Brodsky aimed to coax more of the debt to go long term, putting it below the line and getting the current ratio down to parity. If investors didn't stand up and salute after that, he wasn't going to wait until he ran out of cash. "If I don't see a positive turnaround," he promised, "I'll sell the company piece by piece."
Cash demand kept its pace, so Brodsky kept his word. Within a few weeks, he put two domestic courier units, Boston and San Francisco, on the block, hoping to get more than $1 million for them. Sell, get rid of debt; sell, get rid of debt -- that was the ticket back to New York. "I was taking out around $750,000 a year before this thing; now, I'm giving it back. I didn't anticipate having to go in and buy out the international business. That company was really bleeding. That's where I made the giant error. I should have given [the previous owners] no cash for the business and taken back more notes. It crippled me from a cash-flow standpoint." The irony was that if he had simply put the $5 million he raised into a bank instead of an acquisition, his life security ploy would already have come about. "Maybe after I pay everyone off," he daydreamed, "I'll be left with a nice little business."
But even if the tactics of desperation could have kept CitiPostal alive a while longer, no one was minding the store. "Over the months I changed from a CEO to a fund-raiser; I felt like I was in the United Jewish Appeal and Catholic Charities," Brodsky recalls. "I didn't pay attention to my business. Sales started to slide, and it became impossible to raise the next $2 million." A persuasive salesman when he was rolling in the old days, he used to make 15 calls a week. Last summer he barely had time for 2 or 3. And in the past when he wasn't selling, he'd pore through check ledgers for hints of waste and inefficiency, cinching a taut belt even tighter. "I'm not doing the job I'm getting paid to do," he regretted. "I'm doing something I have to do, and I don't like it."
Before he submitted to one himself, Brodsky had assumed that a reorganization under Chapter 11 wasn't feasible in a service business like his. "All those little vendors wouldn't go along," he reasoned. "Imagine my calling up a town in Wyoming where I owe some cab company $200, and telling him he won't get his money on the old bill, but if he'll just take this new one, he'll get paid under a debtor-in-possession certificate? The guy's going to hang up on me."
He had to acknowledge that something along those lines was needed when, after CitiPostal had collected thousands of documents for a customer, its Denver agent threatened to make delivery by scattering them in the Colorado River unless Brodsky paid the $35,000 he owed. Brodsky couldn't. On the home front, the estranged bank continued to pursue his cosigning spouse by mail: you owe $2.6 million and we demand payment today, one correspondence importuned. Brodsky phoned back and said, "What are you doing sending letters to my wife? I have 15 attorneys, send it to one of them!" "Hey, if we wanted to be real nasty about it," the worker-out said, "we would have sent her a lawsuit." "And if I wanted to be real nasty," Brodsky retorted, "I'd walk out of here tomorrow and you'd get nothing." With that, he threatened to sue them for lender liability.
"If I hadn't consolidated the businesses," he berates himself, "I could have thrown only Sky into Chapter 11. Instead, I pledged the credit of one company for another company. I should have let one company stand or fall on its own. Once I did it, it was too late to change. Essentially I made only one mistake -- a bad acquisition," Brodsky sums up the fall. "It was an absolute, horrendous mistake from day one. But I learned something: you can't possibly borrow your way out of debt."
Salvaging what little business value remained, he sold off two more operating parts to the two airlines pending court approval, and filed for bankruptcy later the same day. By then, CitiPostal's unsecured debt was close to $20 million. "There's no way to stop the slide," Brodsky explains. "Every time you go in to make a sale, they ask to see your financials. Competitors know you have problems, and they use them as a selling tool against you. And morale is bad. We had wage freezes and cutbacks. One thing leads to another that leads to something even worse." Indeed, CitiPostal couldn't even get out its June 30 year-end financials: the company was past due on $110,000 to its now-former auditors, who thus became an anxious creditor like everyone else.
Under the indulgence of the bankruptcy court, Brodsky has ended up running a local delivery service shrunk to half the size of his old Perfect Courier. "It's like starting all over again," he says. "In some respects it's easier, in that I'm already doing around $7 million or $8 million of business, have no debt, and have a giant net operating loss going forward. The negative thing is I have no credit. Of course, I had no credit when I began, but at least I could plead 'Hey, I just started, give me a break.' " Previously angry vendors do sympathize -- though not so profoundly as to advance him buying power. When Brodsky informed suppliers that he had filed for Chapter 11, most rooted for him: "That's too bad, is there anything we can do for you?" "Yeah," Brodsky would suggest, "I need credit going forward." "Well, er, is there anything else?"
Brodsky arrives at work just as early as he did when he started Perfect Courier. He stays just as late, and gets home to dinner maybe once a week just as he used to. Only he's 10 years older and closer to his family, and now the hours are given grudgingly. Toward what end?
He owns far less of the company -- barely 30% -- and likely will own even less than that if the court dishes out equity to creditors. "I'm not here for a paycheck," philosophizes Brodsky, who, among other concessions, has accepted a slash both in salary and the size of his company car. "I started this place myself and have strong emotional ties to it. I would not like to go out a loser." Even if eventually he does, the lecture circuit likely will be the richer for it. "Bankruptcy itself is creative financing," the maestro has come to conclude. "If I weren't so involved, it would be a very interesting experience."
PRINT THIS ARTICLE