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Paradise Lost

How one thriving bootstrapped company is trying to maintain its original identity in a time of rapid growth.
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System Connection's Rick McCloskey wasn't the first founder whose company thrived on bootstrapping-nor will he be the last to learn how easily, and sometimes irretrievably, a bootstrapping culture can slip away

Even the modest comfort of Rick McCloskey's office embarrasses him, so he quickly explains that the desk came from a failing law firm and the new partitions were bought at cost from an office-furniture dealer that wanted a showplace in Utah for prospective customers to visit. The dealer paid for the wallpaper and wainscoting, too, and prints for the walls. Still, McCloskey thinks maybe he should have taken some decorating tips from Sam Walton, one of his heroes, whose company's offices were often made of unfinished plywood. He worries that System Connection's decor sends the wrong message to workers, contradicting the bootstrapping frugality that the company profited by in its early years, that it lost as it grew, and that it must now revive.

* * *

In the beginning bootstrapping was easy. It wasn't even a choice. When McCloskey started the company (first known as Dare Systems International), in late 1985, he was 27 years old and freshly arrived at Brigham Young University, in Provo, Utah, after converting to the Church of Jesus Christ of Latter-day Saints -- the Mormons. He was also essentially penniless. But he'd worked in California's high-tech industry long enough to be startled by the prices he saw people paying for computer cable at BYU -- $30 for stuff that cost $6 wholesale. And he figured he could sell enough cable at $16 to make more than any student job could pay him.

He began to buy small quantities of cable (or switch boxes or IBM cards or modems or other such paraphernalia) on a net-30-day basis, posting flyers on campus to advertise his wares and selling COD. "I was living like a student," he says. "And my overhead was so low, I could get deals." After he got married, in April 1986, he could travel to Salt Lake City to sell, while his new wife, Kim, fielded phone calls from a desk made of boxes and a particleboard plank in the kitchen of their tiny, inventory-clogged, one-bedroom basement apartment.

In 1987 McCloskey was joined in the kitchen by his high school friend Bob Sorensen, also a California high-tech refugee and also a convert to the Mormon church. "Rick is very much a penny-pincher, and I'm the same," Sorensen reasons. "I knew we wouldn't squander anything." Cash flow -- the fruit of McCloskey's frugality -- allowed them to buy larger volume from overseas at lower cost and better terms. The company took off: $600,000 in 1987, $1.4 million in 1988.

If they needed any bootstrapping inspiration along the way, the System Connection founders could turn to Mormon history. When the young church could no longer afford wagons to bring settlers to Utah from the East, 3,000 made the journey on foot, pulling handcarts behind them. The huge Mormon Tabernacle building is held together with wooden pins because nails were so scarce in the new land. Just as Utahans today invoke those stories as they face subtler social challenges, so do the managers and employees at System Connection address the challenges of fast growth by invoking their own early days.

There were the trips McCloskey made to Long Beach, Calif., where he picked up packages of cable from Taiwan, to save further shipping. And the night he ran out of gas in transit. With the needle edging toward empty at St. George, Utah, near the Nevada border, McCloskey pushed on to Las Vegas, where gas was cheaper. At 2 a.m., seven miles from Vegas, the truck died. He woke up Sorensen, who was sleeping in back. "Rick thought that if we could just push the U-Haul to the top of the hill, we could coast in," Sorensen recalls.

Or the time Sorensen and Dale Erling, now director of marketing support, set up the warehouse in Philadelphia -- the two of them building all the shelving, Sorensen spending nights in a sleeping bag on the warehouse floor and showering in a health club.

And there was the controversy over the three-hole paper punch that Sorensen bought a few days after he started full-time. "I was pretty upset," McCloskey remembers, "because we already had a one-hole punch." When Vonnie Koutz started as the fourth employee, in March 1988, Sorensen told her to save the tiny circles of paper that the paper punch made, joking that McCloskey used them as Post-its.

That bootstrapping ethic gave System Connection the flexibility to take risks that its competition couldn't and to reap the rewards. Because McCloskey picked up shipments himself, because he recycled scrap, because he bought wire at closeout sales for pennies on the dollar, he had cash available when the time came to invest it. When he foresaw the demand for small-computer-systems-interface (SCSI) cable, now a huge market, he was able to lease the necessary equipment to manufacture it. Meanwhile, competitors bought SCSI cable from him and resold it. Guess who sold more?

But McCloskey discovered that bootstrapping got harder as he grew. When he started System Connection, he and his partners knew what needed to be done, so they did it. There was no money to spend, so they didn't spend any. Motivation? They owned the dump.

With 100 employees, things were more complicated. McCloskey couldn't simply pine for more "self-starters"; he had to direct people. As Koutz, now head of human resources, says, "In the early days it was easy to be a self-starter. I sat outside Rick's office and heard everything, so I knew what had to be done. But we couldn't all sit outside Rick's office anymore." McCloskey also had to tell people why they had to pinch pennies, because the reasons were no longer so obvious. It looked as if there were plenty of money for one more three-hole paper punch.

Like most businesses that expand, System Connection needed to become more orderly to be efficient. It needed budgets, job descriptions, chains of command -- things that make a founder's skin crawl. McCloskey thought, and still thinks, that budgets give people an excuse to spend as much money as allocated, whether they need to or not, and job descriptions permit them to say, "That's not my job" when they should be volunteering to pitch in.

But as System Connection continued to grow (to $2.7 million in 1989 and $5.1 million in 1990), and as it outgrew the basement apartment and several offices and added dozens of employees, McCloskey knew he needed "to do some letting go." His partners offered not-so-gentle encouragement. While McCloskey was away on vacation, they removed file cabinets from his office, and when he returned, they told him he was giving up purchasing, at least.

Over the next few years he gave up a lot more, in three failed attempts to divest himself of the day-to-day operations and introduce greater controls in his company. And for a company built on bootstrapping, there were consequences McCloskey hadn't bargained for.

The man who inherited the file cabinets eventually inherited the president's title, too. Jon Tingey took over in May 1991, becoming responsible for day-to-day operations. The then-27-year-old M.B.A. believed it was time for System Connection to grow according to a plan, instead of entering every market it spotted. He introduced some management organization, even a budget. Meanwhile, the company took on increasing inventory, anticipating continued growth, and the economy stalled. As profitability plummeted, McCloskey balked and, less than a year later, resumed the presidency.

Next he turned to "the outsiders." Dan Ellertson came from Black Box, a high-end catalog retailer of connectivity products, to join System Connection as vice-president of marketing. Mark Seastrand came from MegaDiamond Tool, a manufacturer, to become vice-president of operations. Both of them refugees from companies much larger than System Connection, they would inject much-needed professionalism. They began in the spring of 1992.

And were gone by the following January, after alienating longtime employees by dictating how the company should be run. Tingey says that Ellertson, who lasted longer, called the salespeople teenagers, claimed his old sales force could sell rings around them, and instituted a draconian compensation plan, under which the sales force lived or died by monthly sales volume. Soon salespeople were ignoring long-term development to boost their numbers.

Seastrand, who served barely two months, handed down a code governing inventory and order processing. Some of it made sense, but his contemptuous manner, McCloskey says, got in the way. "Both of the outsiders had tremendous talent, but people hated them." For their part, Seastrand and Ellertson say they had begun to introduce some of the professionalism they had been asked to provide when McCloskey's ambivalence and interference sabotaged them.

Sadder but still not wiser, McCloskey made another attempt to graft some professionalism onto System Connection, merging it in February 1993 with a Salt Lake City company called Angia Communications. Because other companies quickly copy the latest cable, it soon becomes a commodity. A few smart cable companies have solved that problem by obtaining proprietary technology and engineering capabilities beyond the cable market. McCloskey hoped to do that with Angia, which designs and manufactures tiny fax modems for notebook computers.

But he had ulterior motives. "Rick still didn't feel strong at day-to-day administration," Brad Bullough, the head of operations, recalls. "He had hopes -- we all did -- that the head of Angia, Kirby Cochran, could handle that." So Cochran became president, and McCloskey assumed the title of chairman.

"Shortly after the merger, I realized I'd gotten into bed with the wrong guy," McCloskey says. "He went hog-wild with spending." Worse than that, "I believe his real motive was to get big, go public, and get rich quick. That's totally against our philosophy."

Employees saw the contradiction, too. "I took one look at Kirby," Dale Erling says, "and I saw Carl Icahn. I thought, He'll clean house." Cochran resigned after two months. As with earlier failed experiments, McCloskey quickly cut his losses. But he couldn't just put the episode behind him. "It was like we'd ripped out a part of ourselves and thrown it to the dogs."

The board met again to choose Cochran's successor. McCloskey was no longer the majority stockholder; he had to apply for the job if he wanted it, and he wasn't sure he did. He'd never been very good at it, anyway -- he was a founder, not a manager. So he listened as the board discussed candidates -- none qualified, in McCloskey's opinion. Then the board considered bringing in another outsider. And McCloskey woke up. The dark ages had taught him how special the culture of his company was and how different -- how bad -- it could be. "That made me realize how much I wanted it," he says. "Not the title but the ability to determine the type of company we were going to be."

* * *

When he started his company, McCloskey entered into an unspoken contract with early partners and employees -- a contract every bootstrapped entrepreneur understands and exploits. Employees understand it, too. You ask them to sacrifice, to do more in a week than most people do in two, and in return, you offer to take them with you as you climb. That doesn't mean that the secretary who cut checks between phone calls in the early days can handle CFO duties for an international business; it's not that simple. But with the contract come certain expectations.

"Everybody thought they could be owners, that one day they'd share in the pie," Erling says. "When these outside guys came in, we all thought, You've got to be kidding. Many of us had applied for those jobs. I did. I came up with a whole marketing plan. But the marketing guy came in at double my salary."

There's a second provision to that bootstrapping contract: that you'll respect the knowledge and the experience of the employees who brought you this far. Of course, sometimes you'll need outside advice. But you'll invite employees to help solve problems, instead of imposing solutions from above.

"They weren't just giving advice," Dennis Dickinson recalls of the outsiders. Dickinson, the distribution and warehouse manager, is an old friend of McCloskey's, with 25 years' experience in distribution. "They told us, 'This is the way the world is.' Yeah, well, I've been in it. Where were they when we built this company? When we outgrew four buildings in five years?"

When McCloskey broke that contract with his workers, he undermined their bootstrapping ethic. "I've realized how fragile it was," he says. "You can blow it all with one or two bad decisions."

Now he's trying to repair it. He can't go back to the simplicity of the company's pioneer days. Through the dark ages, the company continued its frantic growth -- to anticipated sales of $25 million this year -- so it needs controls more than ever. System Connection can never again be the company it was. But it can operate according to the same principles and apply them to its new circumstances, if it can develop controls that sustain frugality and fellowship.

Once again, McCloskey is president. Jon Tingey is still with the company as executive vice-president, focusing on sales and marketing. McCloskey has come around to some of Tingey's ideas about the value of budgets and job descriptions and other such noisome things. He accepts them now because he believes he can develop them within an ethic of bootstrapping.

"Our people know as much as any manager does about what needs to be done in their departments," he says. "We can't treat them as robots, to be programmed by someone from outside. We've got to tell them when there's a problem and ask them to think up a solution." McCloskey is loath to say "empower." But that's what he's slowly begun to do.

Recently, employees reorganized the shipping department and wrote their own job descriptions. This past summer the company introduced a new profit-sharing plan, based on net profit before taxes, with a certain percentage of each worker's salary -- a flat percentage across the whole company -- paid quarterly. The company has tried profit sharing before. The difference this time, Sorensen says, is that information will be shared. Which is why in June, CFO Sorensen led three weeks of classes in the company's finances for all 130 employees. First they learned to read a balance sheet, an income statement, and a cash-flow statement. Then they tackled ratio analysis. Finally, they reviewed the company's financial statements from 1987 to the present. Like the old bootstrapper he is, Sorensen told them that "there are two reasons companies go out of business: one, poor management; two, problems with cash flow." Workers will help avoid the latter only if they know where the money goes.

It's only a beginning. The key to success, McCloskey believes, will be consistency. And that will be difficult; the company's saving grace during the dark ages was its willingness to make changes quickly, to cut losses. And those quick changes were possible because the McCloskey of old never let go of control. What will happen this time when empowered workers make expensive mistakes? "We've got to let that happen," McCloskey insists. "We've got to try."

Last updated: Nov 1, 1993




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