By Richard Salomon
Whether, when, and how to take a family or individually owned company public are decisions that have faced a great many entrepreneurs. They have taken actions that have brought happiness and fulfillment to some and unhappiness to others. Perhaps people who are presently reflecting on such dilemmas can draw some useful thoughts from a study of one string of decisions. My aim here is to touch on what prompted my own decisions and what results flowed from them.
I had been for many years the sole owner of Charles of the Ritz, a relatively small cosmetics company with a luxury chain of hair dressing salons and a high-priced line of products that were sold exclusively through department and specialty stores like Saks, I. Magnin, and Neiman-Marcus. In 1960 Charles of the Ritz did about $l4,500,000 in volume for a net of $1,150,000. We also owned the Venus Pencil Company (acquired for cash in November, 1956), which did $13,500,000 with a net of $300,000. In all, we did $28,000,000 for a net of $1,450,000.
I was at that time 49 years old, the father of three sons ranging from 17 down to 8. Like most other entrepreneurs who had been successful in their own ventures, I had about 95% of all I owned tied up in my company. I enjoyed running Charles of the Ritz and had built up an excellent team of people who worked well together and respected each other. From 1951 to 1960, sales had risen from $7,500,000 to $13,400,000 and earnings had jumped from $300,000 to over $900,000. Each year had shown growth in both sales and earnings.
While still small, we were an attractive company to the investment community. We were approached by several companies who explained to us the advantages of going public. Among them were:
1. Diversification: As I have indicated, 95% of all I owned was in Charles of the Ritz. While it was doing fine and showed every prospect of continuing to do so, 19 out of 20 eggs were in one basket.
2. Ascertainable value for estate and inheritance taxes: The value of the shares that would pass to my family in the event of my death would have a definite price. In the absence of a public market, the IRS would establish “a fair market value,” which would be a matter of opinion, judgment, and possible legal battle. It appeared preferable to have an easily and accurately determined price. Furthermore, if, as I hoped, one or more of my children wished to continue with the business, they would be able to sell sufficient shares to pay estate taxes, or they might even borrow sufficient funds with stock as collateral for a loan. A definite value and greater flexibility seemed ensured by a public issue.
3. Equity available as executive incentive: All our key personnel were extremely enthusiastic about the future of our company, and all of them had for several years hinted at or asked for ownership participation. It therefore seemed that, if I eventually decided to sell shares, I might reward those who had been so instrumental in our success and succeed in binding them even more closely to the company.
4. Equity available for acquisitions or mergers: If there were a public market in our stock and if, as appeared likely, that stock were priced at a fairly favorable price-earnings ratio, it might be extremely useful in bringing into our fold certain related enterprises. These acquisition or merger possibilities, we thought, might accept our stock because ours would have a better P/E ratio than theirs if they were publicly traded. A privately held company might accept our stock for any or all of the reasons that might convince me to go public, or it might come to us because it was too small to go public on its own.
5. Personal satisfactions: Public ownership would mark me as a successful entrepreneur. In the eyes of friends, I’d be considered an unquestionable “success.” This is an intangible and perhaps not praiseworthy motive. It certainly smacks of vanity. Nonetheless, it was present in my thinking.
6. Liquidity: Like many other privately held ventures, ours paid either no dividends or very small ones. It was certainly not to my advantage in tax terms to take either a large salary or large dividends. With the cash coming from the sale of stock, I could invest in some activities that might furnish a great yield to me personally and at the same time conserve cash to finance future growth in the company, in which I would still have an enormous interest.
7. Possibility to realize each of these advantages, personal and business, and still hold working or absolute control: It was pointed out to me that I could sell 25%—thereby retaining overwhelming control—and yet accomplish all the blessings listed: make my key executives happy, set up an equity that would facilitate growth by merger and/or acquisition, and secure personal advantages.
What disadvantages might be attendant on going public were not readily apparent, and no one around me—associates or Wall Streeters—discussed them. I perceived no pitfalls and therefore made up my mind to proceed. This decision, based as it was on so many attractive possibilities, was to have a major impact on my subsequent business life. I will discuss later some of the snags and pitfalls which were not so readily apparent and which were to make me wish very often that I had decided to stay as I was.
We decided in January 1961 to go ahead with the issue of 215,000 shares (of the 1,000,000 issued to me as a sole proprietor) at a price of $18 per share. About 30,000 of these shares were reserved for our executives and long-time employees. These were to be sold at about 10% less than the $18 stock being offered to the public.
With the announcement of the decision to proceed, the first unpleasant result came into view. The group of friendly, closely knit executives started jockeying for positions and worrying about who got how many shares. Men with whom I had never exchanged an unpleasant word over compensation or perquisites became snarling tigers when it came to asserting their claims to a larger allotment of shares. All told, 55 people were vying for some part of the 30,000 shares, and it was for me and for them a most unpleasant experience. One must remember that the stock market had entered what could only be described as a “hot issue” craze. And we were among the hottest of the hot issues. In this connection, I might note one more sidelight that had its pleasant aspects but that also contributed to the tension and confusion.
Though we had agreed to the $18 price on the stock, the hot issue craze grew stronger as the registration period went on, and the underwriters kept raising the offering price because they were afraid that if the stock were offered at too low a price and if a very steep run-up were to occur on the day of issue, it might appear that they had offered the selling shareholder too low a price. As the price increased, our employees’ difficulties in financing the purchase of the stock allotted to them grew. Between January, when the $18 pnce was agreed to, and April, when the issue came out, the price rose to $25.
At that, the underwriter (White, Weld) wished to offer at $30 and asked me for a written assurance that all I would accept was $25. I am told that having the seller insist on taking less than what he was being offered was a rather rare occurrence. Even at $25, the stock was greatly oversubscribed, and the closing price on the day of issue was $42. In the afterglow of that happy first day, everyone was pleased. Some of the bickering was forgotten, as was the difficulty of financing the increased cost resulting from the price advance from $18 to $25.
Now, however, the price of the stock became a chief management concern and almost the sole topic of discussion. All of us, myself included, underwent a change in the way we looked at our business. Where we had pursued single-mindedly whatever looked best for our long-range future, we began to be very conscious of the effect on short-term results. This was a fairly subtle phenomenon. It could affect a decision to open a larger number of accounts than we had previously planned. Or we might get into an additional price promotion to assure ourselves of extra volume. In sum, we began to run scared with one eye on short-term results.
There was another more personal aspect to this same problem. As a matter of pride, I wanted no one who had bought stock from me to suffer a loss. This meant that it was important to me personally to see the stock price stay at a level higher than where I had originally sold it. For a worrier like me, this became almost an obsession. When one adds this private worry to our whole management concern with the price of the stock, a not-so-subtle change was quite noticeable.
When one scans annual reports and sees mention of “incentive compensation,” stock options, and the like, one not intimately acquainted with the power of these lures may underestimate them.
If one lives through such friction with his own organization, as I did, and watches its effect on his subordinates, one becomes aware that the incentives may not always work constructively. An executive may often judge matters by what is best for his own options. If he’s been a good teammate and is about to exercise his options, for example, he may tend to be critical of his fellow players because they don’t take the same short view he does. For the old-time entrepreneur, these frictions pose a new problem.
As intimated earlier, jealousy and bitterness were engendered by the allocation of issue shares, and it took passage of time and much care and tact to heal rifts and gradually reunite our team. Fortunately, our stock behaved well, and all of us felt wealthier as a result. If the price had fallen instead of jumped, we might have had a continuing bitter unhappiness—one of the intangible adverse effects it would be well to bear in mind.
We finally made a rule, which I think everyone observed: no discussion of stock price action would be held during business hours. And we gradually got back together. It took months.
Thus far, I have dealt with our internally generated problems. There is, however, another category that arises out of being on public display. Analysts, investors, and competitors can gain entrance to your house. Much of what goes on in the bedroom is visible to those who sit in the parlor—and one must remember that.
I am not implying that one must simply refrain from questionable transactions or self-dealing or conflict of interest, although all these cautions are needed. I’m really speaking about trying to protect one’s actions and decisions from second-guessing and Monday morning quarterbacking. One feels one’s reputation is on the line, one’s business acumen is being publicly tested. Whereas in a private company one can make one’s quota of mistakes without embarrassment, one does not have that luxury—or feels one doesn’t! The whole realm of stockholder relations is a new land through which one must feel his way.
It struck me almost immediately that the aims and considerations of the outside shareholder were very different from my own. I held 78.5% of the company’s shares, and I couldn’t sell them by placing a phone order to my broker. The company had to do well over a long term for me to come out well. The average shareholder (I won’t call him an investor because usually he has bought shares of a company like ours not to invest but to gamble) wants only one thing—to see the price rise. If company action gains that desired effect over a short term, even at the expense of its health, the outsider cheers. If, though, the management looks to the long-range good, even at the expense of this quarter’s or this year’s earnings, he’s unhappy. This was especially true of a small volatile issue like ours.
While I retained numerical control and no one could have unseated me over policy matters, I was still sensitive to shareholders who had taken positions with us. Especially when I became aware of employees and customers who had invested with us (and such people really invested—didn’t gamble) in the hope of long-term profit, I would be much concerned with their impression of how we were doing. No matter how long-term their viewpoint might be, they would become concerned if the price of stock fell. Pressure of this kind presents special problems that have a major impact on a company’s future.
For example, after we went public, we were inhibited from starting up a new venture—even if it looked advisable to do so. Why? Because it would probably involve us in losses that would adversely affect our orderly and historic growth in per share earnings. While a privately owned competitor might consider launching a risky product like Clinique or Aramis, this was a luxury not permitted a relatively small public company whose earnings had to increase not only annually but even quarterly.
This inability to strike out on new paths compels one to tend only his previously cultivated fields. Either that, or one must look to acquire property from his neighbor, by purchase with cash or shares or by merger. One might have to pay a premium to acquire an established venture, but if one were careful, one could add sales and earnings without losing per-share earnings growth.
As this idea dawned on us, we started to look around. We picked up entities like Antoine de Paris, a cosmetic line that contained one great item that has since become a smash success—Bain de Soleil. We invested in the worldwide right to, and the creating and developing of, fragrance and cosmetics of Yves Saint Laurent, the great Paris couturier. With these activities and the careful cultivation of opportunities in our own well-ploughed fields, we continued to show increased sales and earnings. In Saint Laurent and Bain de Soleil, we had also made investments in our future. We were constrained, however, as to how much we could spend for advertising and promotion—considerations that would not have been present in a privately owned situation. This, of course, had the effect of retarding growth.
The going was tough. It therefore seemed attractive to merge with another house that operated solely in the fragrance field, where, except for our Yves Saint Laurent fledgling entity, we were nonexistent. A Wall Street house proposed Lanvin as a partner. This company was larger than ours owing to the great success of its Arpège fragrance. It enjoyed New York Stock Exchange listing, had a better profit margin than we, and operated in a different segment of the industry—it was thus a pretty ideal partner. Moreover, while its Arpège had just about reached a peak, Lanvin had recently acquired a bath line that had been coveted by every house in our industry—Jean Naté.
This business was a sleeper capable of enormous expansion. We felt that the two companies combined would create one strong entity: the two parts complemented each other, and there was little competition between them. Operating savings appeared possible all the way down the line. The principals appeared compatible, and our company merged with Lanvin to form Lanvin-Charles of the Ritz, with me as the controlling stockholder and chief executive officer. The new company came alive in 1963 and continued on through 1970. From 1964 through 1970, an increase took place in both sales and earnings. The synergism that had been forecast actually worked.
By the end of 1970, I had become convinced that none of my sons would join me in our business. Except for the war years, I had been chief executive since 1936, for 34 years, and the job was getting no easier. I had what money I needed, and I disliked the idea of continuing to put forth great effort and accepting great pressure when none of my family could benefit from my doing so. Our two investment bankers brought forth many marriage partners of which only one—Squibb—seemed right to me.
After a certain amount of backing and filling, merger terms were agreed on, and the merger took place in May 1971. I agreed to stay on until Richard Furlaud, the able chief executive officer of Squibb, and I could agree on an adequate replacement for myself. I had brought along a second in command whom I would have left in charge, but Squibb felt he was not sufficiently experienced in marketing. Therefore, I found myself working as a paid manager of someone else’s business—a new experience for me. While everyone was most kind and helpful, I found it difficult to have to submit my decisions and plans of action to someone else for approval. Because of my experience, I would advise any long-term entrepreneur to think twice about continuing to work after being acquired.
Eight months after being acquired, we found a mutually acceptable replacement, and I retired from active management. I went off the payroll completely. I continued on the Squibb board and offered to consult and advise without charge, and I continue on that basis to this present day.
In looking back over this long experience, I1 have often thought about what I would have done differently if I were to do it all over again. If I had known in 1961 what I know now, I believe I would have solved my problem in another way.
At the time I was weighing my major decision, I should have known myself better; I should have asked myself certain questions, answers to which would have been revealing and helpful. What I should have asked was:
1. Would I, once I had taken the public in as shareholder-partner, be able to resist or disregard their preoccupation with short-term results and/or fluctuations in the price of our shares?
2. Am I the type who can ignore the stock market demand for consistent and constant increases in sales earnings?
3. Can I accept with grace and equanimity the public exposure of mistakes, which in a proprietorship could remain hidden?
Had I asked myself these questions and had I searched myself for honest answers, I would have come out with a different solution to my personal problems. I would have held on to my business until such time as I no longer wanted to work in it or, as in my special case, until such time as I saw no one in my family as a successor.
Since retiring from active management, I have seen many others go through decisions not dissimilar. I have told two people who asked my advice that, if I were to do it all over again, I would not choose the route I had followed. I advised them to sell out and get out. Each of them had come along a path similar to mine. They felt that selling a small percentage would permit them to have their cake and eat it too. I did persuade one of them, who sold out and left—to the gratification of his wife and himself. The other is still wrestling with his decision.
In retrospect, it seems to me that for the last ten years of my career the joy of business had vanished. From the day I went public in 1961 to the day in 1972 when I retired on my sixtieth birthday, it seemed to me that I was under constant pressure for performance and not free to act totally in the interest of the business itself. The interests of the short-term share owner too often were not parallel to those of the management.
It seems to me that one act followed another in preordained fashion. The decision to go public led inexorably to our eventually being acquired. As in a Greek tragedy (although in this case the final outcome was anything but tragic), each decision called forth a new circumstance to which there was only one logical answer. And this answer in turn gave rise to new problems that led to a new decision, which led to a new set of problems and to the eventual decision to sell.