The step-by-step account of how one small, low-tech consumer-product marketer became an unlikely dream IPO -- and made its two founders rich overnight
After two record-setting years, the action in initial public offerings cooled considerably in 1994. But the climate wasn't so nippy that two accounting buddies who had quit auditing eight years back to go into business together couldn't consummate an IPO that made them multimillionaires.
Nor did the chill prevent a couple of investment bankers who were new to IPOs from sponsoring an offering that doubled in price within six months.
Coincidentally, it was one and the same tortuous, grueling, frustrating, time-consuming, confidence-shaking deal. In other words, a typical small-company public debut.
The fates rewarded all concerned when Geerlings & Wade (G&W) went public, on June 17, 1994, with 1.4 million shares of stock at $8 each. But not before those fates had toyed with the company a bit.
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The Company: A Wine Seller
Chairman Huib E. Geerlings, then 31, and chief executive Phillip D. Wade, then 28, founded G&W in 1986 on a wine-by-mail concept whose success placed the business well up in the Inc. 500 rankings of the fastest-growing private companies in 1992 (#336), 1993 (#161), and 1994 (#82).
G&W owes its fast growth partly to the marriage of two salutary trends: a booming mail-order market in consumer goods and a countrywide rise in the consumption of premium wines. G&W's concept was to simplify the wine-choosing process by eliminating the "intimidation factor." Marketing focused on offering a modest array of moderately priced wines and sending out mailing pieces that, through straightforward write-ups, educated the potential consumer on how to appreciate them.
As with all successful direct marketers, Geerlings & Wade's advantage comes in the way it keeps painstaking control of its data. Selective mailings are directed to discrete segments of customers according to their purchasing history, and returns are carefully analyzed before the next mailing goes out. About 40% of customers on the mailing list have been buying for four years. The company keeps its prices attractive by scouring vineyards here and in Europe and sourcing directly from producers. In some instances, G&W sells the wares under its own private labels. A sophisticated inventory-control system speeds up delivery.
The company's merchandising and buying strategies have paid off handsomely. Geerlings & Wade's distribution expanded a state at a time as its regulatory counsel answered to each state's alcohol-selling statutes. By fiscal year 1992 the company's sales had reached $6.4 million, and its market continued to evolve. Though such numbers are traditionally considered too meager to support a major IPO effort, in 1993 the new-issue window was begging for growth companies to pass through it. The two founders figured they could put easy new capital -- not to mention the chance to cash in old S-corporation chips -- to good use. That spring Huib Geerlings and Phil Wade agreed the time was ripe for an IPO.
But how would they go about it?
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Left Side, Right Side: Putting Together a Team
For starters Wade sought recommendations for underwriters from the Boston-area network of accountants and corporate lawyers the company had been cultivating, while Geerlings concentrated on product development and market expansion. Each quarter Wade and the company's just-hired financial officer William Herp cranked out missives to 15 or 20 candidates, describing their unique approach to wine selling. "The investment-banking community is one you really can't pursue," Wade says. "You keep sending out your numbers and your story, and if they're interested, they'll let you know." Despite the company's five-year sales-growth rate of 1,476%, the switchboard at Geerlings & Wade didn't really light up.
A couple of respondents, however, proposed that little G&W call again when it got bigger. "These firms," says Wade, referring to the list of prominent underwriters he'd assembled, "want to take you public at a high valuation. The larger the transaction, the more money they make. Since it requires as much effort to do a $10-million deal as a $100-million deal, if they have an opportunity to do a $100-million deal, that's the one they'll do. Besides, they have tremendous egos and pecking orders, and a reputation for doing big deals sets them off."
The owners debated waiting: if the market value of their offering was overly scrawny, it wouldn't stir up enough buying interest to create a liquid market for the stock, and that would deter institutional buyers. But they didn't debate long. In November 1993 Vermont Teddy Bear (#88 on the 1995 Inc. 100), a local direct marketer with about the same revenues as G&W, went public with an $8.5-million offering. On its first day of trading alone, the interest of hundreds of anonymous buyers pushed its stock up by 67.5%.
Wade and Geerlings were convinced. Theirs was an IPO waiting to happen.
As luck would have it, Wade received a cold call from Needham & Co., a New York City investment-banking firm itself only 10 years old but with 83 IPOs under its belt. Needham's founder had heard about the company at a wine-enhanced dinner hosted by a G&W customer. Not yet among the country's premier investment bankers, Needham nonetheless was a more substantial name than Wade had dared hope for.
"Part of Needham's reason for calling," he says, "was that they were mostly in high tech and wanted to move some of their banking into the retail sector. The direct-marketing business, and our product in particular, is simple; wine is easy to talk about with stock analysts and mutual-fund managers. Doing a deal with us fit well into what they were planning, so they were maybe willing to do it sooner than someone else might have been." By Saint Patrick's Day 1994, Needham and Geerlings & Wade were a team.
Though the use of a solo underwriter was common in the past, it's a rare offering nowadays that's handled by a lone arranger. With Wade's input, Needham sought a comanager to help out. On a Wall Street prospectus, however, "co" doesn't mean "equal." The firm whose name gets printed on the left side, the lead manager, is regarded as investment banking's aristocracy; the name printed on the right is considered a lackey along for the ride. Like a lion carving up the kill, the left-sider appropriates as many shares as it wants for its own firm's handling. The rest are dispersed to an assemblage of dozens of fellow bankers called the "syndicate," who, by agreeing to purchase modest allotments of shares, ensure a positive reception for the IPO. Especially when a "hot" issue is involved, favors done here are paid back later. The comanager, meanwhile, administers to more mundane matters such as arranging the itinerary of the road show.
The right-side-of-the-page position doesn't always get filled readily. Enter Sheldon M. Fechtor and Robert R. Detwiler, principals of Fechtor, Detwiler & Co. Since 1989 the pair had been seeking to expand their local stock-brokerage firm into investment banking. "Getting the first client is the hardest," Detwiler observes -- as he had been observing for several years running. "We may be the nicest investment bankers in the world, but a public offering is a key event in the life of a company, and no one wants to experiment with an unproven underwriter. If you were giving birth, would you choose an obstetrician who'd never delivered before?"
Then, in early 1994, one of Fechtor, Detwiler's salespeople, an oenophile, happened to be comparing wine notes with a customer and, like a cork, the name Geerlings & Wade bobbed up. When Fechtor, Detwiler first approached G&W, it was vetoed because Needham wanted to have a better name next to it. But the two weeks' quest for a better name was expensive. "Lawyers' clocks are ticking, and everyone gets ready to go," Wade says, "and then you don't go." Fechtor, Detwiler was looking better by the minute and finally took up permanent residence on the right side of the page.
No matter what the positions on the cover are, says Detwiler, to the company being brought public, a comanaged arrangement is a no-lose situation. "Instead of one market maker, you get two; instead of one firm providing research, you get two." And in Fechtor, Detwiler's case, instead of only a big-block institutional market, you also get a retail market -- a multitude of individual shareholders whose lesser but more frequent dealings not only help boost the IPO's price but expand activity in the aftermarket. To such buyers, Fechtor, Detwiler's 40 brokers sold a solid third of the offering.
"That helped pull it together," Wade acknowledges. "The fact that there was so much retail interest impressed the institutions that there was more liquidity in the deal than is usual for a small-cap, small-float offering." Detwiler's assessment: "A regional retail firm just may have rewritten the role of comanager."
Then again, not every regional retail firm gets handed a roster of national leads. G&W used its direct-marketing muscle and mailed an announcement to some 40,000 customers, describing the company's intention of going public. If you want to buy shares, it instructed, contact Fechtor, Detwiler -- and more than 3,000 did. But, Detwiler warns, there's a risk in a company's selling its stock to its customers: if the price of the stock goes down, resentful customers tend to take it out on your product. Still, when one Fechtor, Detwiler representative came to the office at 7:30 a.m. and had four G&W-generated leads signed up by 8, he had a more visceral reaction: "This is brokers' heaven."
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A Glitch and a Red Herring
Even as 1994 progressed and the IPO market noticeably cooled, the happy team of Geerlings & Wade, Needham, and Fechtor, Detwiler pushed ahead with drafting the registration statement, a document that details the terms of the IPO as well as the company's management, history, and financial condition. Wade and Herp put in two months of 16-hour-a-day drudgery, Wade recalls, not to mention "having to run the company in the remaining hours, because a down quarter now would kill everything." The final statement was ready early in May for Securities and Exchange Commission filing -- almost.
"All the i' s were dotted, the statement was printed, and we were ready to board a plane to Washington," Wade recounts, "and we hadn't gotten approval from NASDAQ for listing." An 11th-hour phone call determined that NASDAQ had rejected GEER stock for listing on its National Market System (NMS); instead, trading was to take place in its Small Cap market, an IPO's Siberia. The reason, said NASDAQ, was that G&W's fiscal-year financials didn't meet NMS criteria regarding minimum assets and income.
G&W had assumed, inasmuch as the company's assets and income did qualify if assessed over the most recent 12 months, that NASDAQ would rubber-stamp an exemption. NASDAQ rubber-stamped a rejection instead and then turned a bureaucratically deaf ear to G&W's plight. "If we're unable to qualify, the deal's off," Herp fretted at the time. "Needham says there's no way we can sell to institutional investors if we're not traded in the NMS; it's tough enough to try to sell to institutions, given the small size of the deal, the float, and the liquidity. But to have to tell them you're in the Small Cap system -- forget it." Finally, NASDAQ relented. G&W filed on May 5.
Then came a stretch of 45 days or so in which the SEC critiqued the document. A company waiting out that hiatus is allowed to simultaneously print and distribute the document in uncompleted form, a publication known as the "red herring." The 60-page-or-so preliminary prospectus gets its name from the red-ink Subject to Completion stamp it bears -- a warning that the government insists is critical to protect a gullible populace from being sold a bill of goods. (But not, it seems, from being sold genuine goods: Geerlings & Wade exploited its red herring's high-income demographics to promote a choice vintage at the bottom of each page.)
When an IPO's coterie of lawyers and accountants has patched in the stipulated corrections and the SEC is satisfied with the integrity of the disclosures within, the offering is declared "effective" and is eligible to be sold to the public. At that point the stock is priced, after which a new, sanctified edition of the prospectus gets printed and distributed. Prospectus printing alone cost G&W close to $100,000.
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The Road Show
As soon as they had filed with the SEC, Wade, Geerlings, and Herp took off on a whirlwind tour. In a ritual unique to free enterprise, the principals of virtually every private company that's brought public through an underwriting must prove their mettle during a three-week endurance test called the road show. In city after city, the principals flip and reflip colorful charts that portray the stature of their company until, like so many Greek choruses, their patrons judge the worthiness of the performance by indicating how much stock they're willing to buy and at what price.
Because a shaky presentation can chill buyer interest, Geerlings, Wade, and Herp consulted a public-speaking coach. But not voluntarily. "At that point we'd been through this stuff so many times we knew everything backwards. The last thing we needed was coaching," Herp says. A substantial private-investor stockholder thought otherwise, strongly suggesting that the troupe attend the training sessions he'd arranged.
Once the team was on the road, the competition proved intense. "Every place we'd pull up in front of, there would be a line of limousines like ours letting off people like us," Wade recalls. Each vehicle delivered an entourage to present their deals to the same audience of fund managers and other large potential investors.
Here are some excerpts from Geerlings and Wade's diary of their magical mystery tour:
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· Phil and Huib on a plane to London, Monday. Underwriters think it's a good opportunity; since most of the product mix is imported, there's a European connection. All week we meet with fund managers who invest in emerging U.S. companies. Back to Boston on Saturday.
· Sunday night: Bill and Phil set out to see America. (Huib stays home to run the company.) First stop: Milwaukee. Monday morning, hop into a car for a meeting. Half a dozen companies like us present deals like ours. Guy in the audience yawns and walks out. Our goose is cooked! Later, bored guy buys our stock; others who listened intently don't. Proves you can't read the audience.
· Drive to Chicago that night; next day, lunch with seven investors, do two one-on-one meetings, and then drive to airport for Minneapolis flight. Tuesday, breakfast in Minneapolis with six investors, then back to airport for Denver. Lunch in Denver with three investors. Back to airport for San Diego. Grueling. Three cities in a day, and we say the same thing over and over. Plane to San Francisco. It's only Wednesday.
· Next Monday. Now home, ought to get easier. It doesn't. Five one-on-ones before lunch, then a big lunch. In Boston the rule is, land the big Fidelity fund first; then, reassured, others will fall in line. Good sign: Fidelity takes lots of prospectuses. Doesn't buy in the end. Take plane to New York.
· Tuesday: four one-on-ones followed by a big lunch. Wednesday, on to Philly. Two breakfast meetings, then a train to Wilmington for lunch. Lots of eats. Drive to Baltimore for an afternoon meeting. To Boston, and it's over.
* * *
"Our mission wasn't to convince them ours was a great investment," a frustrated Herp says, after having followed the SEC's explicit instructions not to. "Our role was only to talk about the company. All the while, the fund managers are thinking, 'Why do I need another stock? I already own 100 different companies, and it's hard enough keeping up with them.' So they tell you, 'Call us next week when the stock is ready to be priced, and we'll let you know.' You find out how well you've done only when it comes together on the last day."
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Setting the Price, Getting a Haircut
In a Wall Street office on Thursday, June 16, 1994, Wade and Geerlings found out. Based largely on what fund managers had bid on the tour, 1.4 million GEER shares were priced at $8 -- disappointingly, less than the $9 to $11 estimated a few weeks back in the preliminary prospectus, and well below the $12 the going-public discussions had begun with back in March.
With the overall stock market in a slump and IPO excitement ebbing, G&W had, as the Street puts it, just taken a haircut. Wade recalls Needham's stern lecture: " 'Everything is coming out below range, and you're no different.' The message was 'That's what we can get for you -- take it or leave it.' " Though shorn like Marine Corps recruits, Wade and Geerlings took it.
"Pricing," reflects Bob Detwiler, "is an art, a balancing act between how much the company gets for its stock and how much the public pays. The company wants to maximize its return but doesn't want unhappy shareholders. You try to price an IPO so it will go to a slight premium the first day." To Fechtor, Detwiler's officer in the trenches, Joel Johnson, pricing is more of a game: "The underwriter tries to build up such demand that an institutional investor won't have confidence in a low bid. If he says, 'We'll pay $7,' but I have enough buyers at $8, I tell the $7 bidder to walk."
You also hope no one's going to "flip" it. "Some funds buy stock just to turn around and dump it for a quick profit," Detwiler says. "You strive for a broad base of serious investors who are potential buyers later as well. Let's say they wanted half a million shares and you give them only 250,000 shares; it's possible they'll be back in the aftermarket, buying stock. That's the best way of placing a deal."
Against the backdrop of a tumbling stock market, G&W shares were not that much in demand. "When there's heavy selling," says Herp, "investors say, 'Why would I want to buy your company? I'm selling everything else.' We were right at the wire." At the pricing session, bids from some fund managers stubbornly clustered around $7. But it was Fechtor, Detwiler to the rescue! "Because we could add the buying of our retail investors to Needham's institutions, we were able to close the deal at $8, rather than having to drop the price." Institutions bidding less than $8 were blanked out, as Johnson had promised.
It was their loss.
* * *
Only six months later, in mid-December of a chilly year for IPOs, GEER reached $16. The company's sales growth had remained so strong throughout 1994 that it slid seamlessly into the #70 slot on the 1995 Inc. 100 list.
Private-company owners who still wonder whether going public is worth it should note that, on the day of G&W's offering, despite its relative modesty, the personal net worth of founders Huib E. Geerlings and Phillip D. Wade were solidified from spongy S-corporation holdings of the night before into a solid $8.4 million and $6.7 million, respectively, including $744,000 each in hard cash. And the company itself took in $8.5 million in new funds that not even Silverado Savings & Loan would have advanced against assets of $5 million. But there was a trade-off: in sharing their business with investors eager for a part of it, the founders went from owning 80% of their company to less than 48%.
Such is the price of instant wealth.
Income Statement (in $ thousands) 1989 1990 1991 1992 1993 1994(1st Q)
Sales $479 $1,277 $2,841 $6,429 $12,428 $4,223
Cost of sales 294 711 1,390 3,511 6,898 2,201
Gross profit 185 556 1,451 2,918 5,530 2,022
Selling, general, & administrative expenses 253 497 1,423 2,637 4,954 1,602
Income (loss) from operations (68) 69 28 281 576 420
Net income (loss) (72) 65 11 239 491 365
Pro forma net income* 325 241
*Represents net income as if company had been taxed as a C corporation.
BALANCE-SHEET DATA (in $ thousands) 1989 1990 1991 1992 1993 1994(1st Q)
Working capital $52 $125 $28 $215 $1,207 $1,386
Total assets 206 339 1,364 1,959 4,766 5,153
Long-term debt -- 6 19 5 940 945
Stockholders' equity 66 133 145 359 546 697 n