SPEAKING OUT

One of the popular perceptions going around these days is that the companies being created through LBOs/spin-offs, are much better [...]

May 1 1989 by Robert W. Lear


One of the popular perceptions going around these days is that the companies being created through LBOs/spin-offs, are much better managed than when they were all or part of a publicly owned corporation.

The contention is that going private relieves the new business of having to live up to too many expensive, corporate traditions and responsibilities; that the quarter-to-quarter, bottom-line pressure is lessened; and that, because the new CEO has a larger stake in the enterprise, he works harder, smarter and tougher.

There is some validity to this observation, at least over the short term. Nearly every CEO of a large company will tell you that he spends a great deal of time in work that is removed from the immediate operating profit arena. He meets with the financial community and with the press. He deals with major stockholders and prepares for annual meetings and reports. He goes to Washington and to trade association sessions. He gets agonizingly involved in anti-takeover defenses and potential litigation. He participates in community affairs. To a degree, most of these functions have become part of the CEO culture at our large, diversified corporations.

The bigger and more spread out the enterprise becomes, the less the CEO gets to know about making and selling the company’s various products, and the more time he spends on non-operational activities. This seems to be especially true of financially oriented CEOs who treat their operating divisions as an investment portfolio. There are also plenty of former operating executives who get caught up in the trappings as they come to sit in the chairman’s seat.

When these diversified corporations begin their restructuring and spin-offs, it is hardly surprising that many of the newly created, privately held companies fare well under their new CEOs. Certainly, part of the reason for their good performance, when it occurs, is getting out from under the bureaucratic burdens of their former corporation.

More importantly, there are two additional factors which go along with many LBOs. First, the new company is smaller and more sharply focused. The CEO is usually the COO. The product line is narrower, and the markets are fewer. The organizational structure is simple, communication is direct and decisions are quick in both the making, and in the follow-through.

Second, the types of people who are becoming the new CEOs are most frequently operating types who know the products, process and customers. They are hands-on guys who make things happen, or, if they weren’t before, they learn fast. I’ve seen a few of those CEOs work on their LBOs, and it’s fun to watch them evolve. They call on customers, work on capital projects, deal with the banks, interview prospective hires, and ride hard on costs and schedules. Their game is cash flow, and they watch the resources and applications thereof. Their goal is to get that high-cost debt paid off, and they give it the proper priority. They are good managers who earn their rewards.

Does this mean that we are on the right track in this country by breaking up our large corporations? Not at all. Like all fads, things can go too far too fast. When there is unstable cash flow and inadequate reserves, there are going to be LBOs that don’t make it. Some deals are so absurdly leveraged and so asset-stripped that no CEO can carry them through a down dip. And not all of the chosen CEOs have the necessary experience, talent and luck to pull it off.

LBOs are surely not for all men and all businesses. Nor does the success of a few LBOs mean that our large corporations are all being poorly managed.

My observations are that most of our large company CEOs are pretty effective. They select and direct competent people to run their operating units who, in turn, get paid well for good performance. They develop a competent staff to assist them in conducting corporate affairs. They stay efficient and competitive through constant adjustment to change. They create the same kind of environment within their corporation that is generated by a new LBO.

I am tired of having fatuous, opportunistic raiders like Carl Icahn tell me in the January 29, 1989, New York Times, that his way of doing a hostile takeover is a “treatment for a disease that is destroying American productivity: gross and widespread incompetent management.” In a free and cyclical society, we are always going to have a few companies who fall behind. Businesses mature, fashions and technologies change, and global surprises emerge. There are winners and losers. That’s what competition is all about.

Any pendulum can swing too far. Takeovers and restructurings are not, in themselves, a cure for anything. They are part of a dismaying pattern of trying to manage our businesses without first learning how to make and sell our products and services. If we don’t watch out, the “real cure”-federal regulation-is going to be a lot worse than the perceived disease.

————————————————————————————————————

Formerly the CEO of F.&M. Schaefer (1972-1977), Robert W. Lear teaches at Columbia Business School where he is Executive-in-Residence. He is an independent general partner of Equitable Capital Partners and holds directorships with Cambrex Corporation Inc.; Church & Dwight Co.; Crane Company; Scudder Capital Growth, Equity Income, Development, International and International Bond Funds; Korea Fund; WICAT Systems Inc.; Welsh, Carson, Anderson, Stow Venture Capital Co.; and, he is a member of the National Advisory Board of Chemical Bank. He authored the recently published book How to Turn Your MBA Into a CEO.