Case in Point: The Case of the Glitters

The Enterprise

EconPharm Products Inc. is a Burlington, Ontario based manufacturer and distributor of generic drugs and naturopathic products. It holds numerous Canadian and US patents and its products are sold through a network of distributors across North America. It was established by a young chemist named Hank Carver in 1971 and has steadily grown its market share over the years, with annual revenues now approaching $50 Million.

The Players

Hank’s son, Tony, has been with the company for 20 years, starting as a junior executive, straight out of Wharton, and working his way up to the COO position. Tony has taken on increased responsibility over the years and has earned his dad’s respect, but it’s clear to everyone that the buck always stops at Hank’s desk. Hank has a personal relationship with each of his employees, some of whom have been with him since he started in the business and they are fiercely loyal to him and the company. Hank’s wife, Annie, has been pressuring Hank for the past few years to sell the business and spend more time with her, but he has always resisted. A recent bout with cancer has made Hank feel a little more vulnerable and he is growing more concerned about saddling Annie with the burden of long-term care costs should his cancer return. Annie has asked Tony to start ‘looking around’ .

The Challenge

Tony checks with a few of his Wharton classmates and discovers that his friend, Mitch Peterson, who runs a private equity shop backed by some high net worth families, might be interested in acquiring EconPharm. Tony meets with his dad and is excited about the prospect of making a deal with Mitch’s group. To say the least, Hank is not pleased. Why didn’t Tony consult with him first? And what if word gets out on the street?

Hank takes a few days to cool off and finally agrees to a meeting with Mitch. Hank quickly sizes up Mitch and tells Annie,“The kid comes from money so he doesn’t know the value of money and he knows diddly squat about the drug business. But…he’s offering cash, a lot of cash, so what do you think?” Annie says, “Let’s see an offer”.

The process starts with an LOI and a 30 page due diligence shopping list, full of requests that make it clear to Hank that they don’t understand the value of his patents or the value of his business. Hank tries to get down to basics, like “I want to make sure my employees have a job after I sell. And what about Tony?” The answers don’t give him comfort. They are also expecting Hank to stay on for 2 years after he sells. Hank, and Annie, hit the roof on that one. At a tense meeting, Mitch asks about a $40,000 item on the balance sheet for marketing material and Tony tells him that’s our stock of brochures, product descriptions and other sales literature. Mitch says “We’re changing the name of the company. That stuff is just garbage to us.”  “GARBAGE!!” bellows Hank, his fist descending on the boardroom table like a sledgehammer, “I worked damn hard for every dollar I earned in this company and you, who never had to work hard for a dime, come in here and you have the nerve to call this GARBAGE!!”

And with that, despite the obligatory apologies and assurances that followed, the discussions with Mitch came to a swift end.

The tension and the distaste of the negotiations with Mitch’s group had taken its toll. Hank went into a depression and refused to talk about selling the business. The impact was being felt by EconPharm’s key customers and his senior employees. Hank also blamed Tony for exposing him and Tony’s mother to this humiliating experience.

Annie’s friend Joyce is a lawyer who has an M&A background and is also an experienced mediator. Annie shares her story with Joyce and Joyce agrees to meet with the family and see what can be done.

A Resolution

Joyce meets separately with Hank, Annie and Tony. It became clear that the company was at a crossroads. Sales had begun to slow down and a number of customers had left, feeling they were underappreciated. Hank’s heart was not in the business and he was now second-guessing Tony at every turn. A number of key employees were thinking of jumping ship, maybe Tony would start his own company and take them with him. And Annie was increasingly worried about Hank’s health. “We have to get him to sell. What’s going on right now, this will kill him.”, she said.

Together, Joyce and the family rule out a number of options. Hank did not want to sell to Tony or to his senior employees and have to worry about whether the business would survive long enough to pay the balance of his purchase price. He was also not interested in going through the same exercise with another buyer, regardless of how much money they were throwing at him. Joyce asked Hank, “In a perfect world, if you were going to sell your company, who would your ideal buyer be?” Hank answered, “A company that can recognize the value of my patents and has the money to pay the purchase price up front, offer jobs to my key employees, give Tony at least a 3 year contract, and respect the name I’ve built up for the last 50 years…and not ask so many damn questions! Is that too much to ask?”

Joyce asked permission of the family to engage an M&A shop to make discreet inquiries and find a buyer. The M&A group, working with Joyce and the family, did a great job creating a buyer package that spoke not only to the value of EconPharm, its leadership, employee loyalty and market share, but also to the quality and criteria the family was looking for in a potential buyer.  A 9 month period of finding and rejecting potential candidates, led to the introduction of a small (by US standards) but highly successful Denver-based competitor of EconPharm, known in the M&A world as a strategic buyer.

Hank had dinner with the owners, who started their business from scratch, just like he did. He talked about the value of his patents and they said, “We know that.” He talked about the values he grew up with, the culture of mutual respect he had generated among his employees, and their intimate knowledge of the business and they said, “We respect that.” He told them he didn’t want anyone tying him down to a contract after he sold and they said, “We know you’ll be around if we have any questions and that’s good enough for us.” He told them how valuable Tony was to the business and that it was in their best interests to make him a deal and keep him on for a few years and they said, “We’ve heard good things about him. He seems to know this business and we’re going to need someone  like him to run things north of the border. We think he’ll make a great addition to our team.”

The due diligence period went pretty smoothly. A number of items needed to be sorted out, including a patent infringement action that Hank promised to settle, a lease to be negotiated with Hank’s holding company that owned the land the plant was located on, some transfer pricing and withholding tax issues that the buyer would need to get some advice on, and finalizing the terms of Tony’s employment agreement. Hank also offered Tony and a few key employees an incentive bonus tied to the purchase price as a reward for their loyalty and to make sure they would stay with the company until the closing and beyond. The purchase price was not as high as the one that was offered by Mitch’s group, but the compensating factors were many and the road to transition far less stressful. For Hank it was as important to him to know whose hands he was leaving the business in as it was to reap the financial benefit of a lifetime of work. Articulating his goals in advance and having a strong team to help manage the transition were the keys to a successful outcome.

Once in a while, Hank still gets a call when he’s on the golf course and he heads over to the clubhouse and spends the next hour or so letting those boys pick his brain.

It turns out, some gold just doesn’t glitter.

Tune in next time when the Case in Point will be The Case of the Crafty Shooter.