Selling My Company (Again)
I thought I cashed out. But then the credit squeeze changed my plans
Norm Brodsky, skyline, warehouse, selling a business
UNDER SIEGE: Norm gets a front-row seat to the credit crisis as the company that bought CitiStorage (above) scrambles for financing.
Norm Brodsky is a veteran entrepreneur.
Yogi Berra famously observed, while managing the New York Mets, that "it ain't over till it's over." Now I know what he meant.
If you followed the saga of the sale of CitiStorage and my two other companies (see "The Offer: Parts One–11"), you probably figured -- as I did -- that I had wrapped up that particular phase of my business career back on December 21, 2007, when Allied Capital acquired a majority stake in the business and I went from being CEO and principal owner to well-paid adviser. Well, not so fast, Kowalski. For the past six months or so, I have been working to find a new owner for the records-storage, document-destruction, and delivery businesses I spent most of my adult life building. Along the way, I've had a front-row seat to the unfolding financial crisis, and I've seen how and why it has caused the rest of the economy to seize up. I've held off writing about the experience out of fairness to the other parties involved, but we're now at a point where I feel I can share with you some of the lessons I've learned.
By the time we closed the deal, the credit markets were already tightening, and it looked as though difficult times lay ahead. We had no inkling, however, of the problems that the economic downturn would create for our new majority shareholder, which had been around for almost 50 years and had assets of more than $5 billion. Neither, I suspect, did Allied Capital's people. My partner Sam and I were working closely with two of them as we put together our acquisitions team and began looking for other companies to buy. That was the plan, as you may recall. The companies I had founded would serve as the platform on which we would build a nationwide records-storage and document-destruction business, with Allied supplying the capital and Sam and me the industry expertise, while my other partner, Louis, ran the new company that emerged from the sale. In four to six years, we would have a liquidity event of some sort. With that in mind, my CitiStorage partners and I had reinvested about $13 million of the sale proceeds, for which we received about 37 percent of the new company's equity and an identical share of the junior debt portion of the deal (which included junior debt and preferred stock).
The first red flag came in the spring of 2008, although I didn't fully appreciate its significance at the time. Our contacts at Allied Capital told us that they wanted to change the capital structure we had set up for the company. They had purchased our businesses using a combination of equity, junior debt instruments, and senior debt. (Senior debt is senior because it gets paid off first in any liquidation, before junior debt and preferred stock, which in turn get paid off before equity. Because there is less risk involved, the yield on senior debt is lower than the yield on junior debt and preferred stock.) Now Allied wanted to find someone else to supply a portion of the senior debt, presumably because it wanted to invest its capital in higher-yielding investments. Because we had good relationships with several banks, our contacts asked us to see if any of them would be interested in providing the senior debt. We were happy to oblige.
It took only one or two meetings for us to realize how drastically the landscape had changed. A year before, bankers would have fallen over themselves to offer up to five times our EBITDA -- earnings before interest, taxes, depreciation, and amortization -- in senior debt. Knowing credit was tighter, we were now looking for three and a half times EBITDA (or "turns of EBITDA," as the bankers say). We quickly came to understand that two and a half or three turns was the best we could hope for -- and the number went down weekly. It finally hit zero, at which point senior debt simply wasn't available. You couldn't get it, no matter how good your credit was. When we so informed our friends at Allied Capital, they said, "Yes, we know."
Our business was, in fact, the least of their worries. In the fall of 2008, Allied Capital began closing offices and laying off staff, including the two guys who had been working with us and who served on our board. During this same period, the media were filled with stories about how mark-to-market accounting rules -- which required periodic adjustments of the value of assets -- were aggravating the problems of financial-services businesses. It dawned on us that our majority partner was probably Exhibit A. Although it had steered clear of the subprime mortgage market, it couldn't escape the general drop in asset values. With each passing day, its investments in companies were declining in value, as would-be acquirers reduced the multiples of EBITDA they were willing to pay. At the time of the sale, for example, businesses like ours were going for nine to 10 times EBITDA. A year later, the same businesses were being sold for six or seven times EBITDA. Thus, even if a company's EBITDA had increased in the interim, its valuation had declined. As long as the business remained fundamentally sound, its equity would recover sooner or later, but the mark-to-market rules required Allied Capital to reflect the decline in its quarterly financial statements. As a result, Allied was in increasing danger of being found in violation of its bank loan covenants, which stipulated that it must always have twice as much in assets as it does in debt.
By then, we had long since realized that our plan to build a records-storage giant was dead in the water. Allied Capital was in no position to finance acquisitions. Mark-to-market aside, it had companies in its portfolio that were struggling and needed a lot more attention than we did. When we asked its executives what they wanted us to do, they said, "Don't worry. Just run the business. Everything will be fine. There are some problems we're working out. Just keep doing what you're doing."
