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CASE50 COSLYN
Billion-dollar apparel companies such as Calvin Klein and Liz Claiborne are unusual in the garment industry, which consists primarily of dozens of much smaller apparel makers. One such firm is Roslyn Manufacturing, a producer of women’s apparel, located in Bedford, New York. The firm was started 14 years ago by Justin Rose and Brett Lynn, who between them had nearly 25 years of experience with a major garment manufacturer. And the partnership initially blended very well. Rose, reserved and introspective, is extremely creative with a real flair for merchandising and trend spotting. Mainly as a result of his genius, the Roslyn label is synonymous with quality and “in” fashions. Lynn outgoing and forceful, has contributed important merchandising and marketing ideas, but has mainly assumed the duties of the firm’s chief operating officer.
THOUGHTS ON SELLING OUT
Rose, however, is seriously considering the sale of his 50 percent interest. Though he still enjoys the creative side of the business, he is tired of the cash crunches that the firm has faced over the years. Periodically the retailers Roslyn deals with have encountered financial difficulties and have strung out their payments. For example, at one point nearly 40 percent of Roslyn’s receivables were more than 90 days overdue. And in situations like this, factoring companies (firms that buy the receivables of apparel companies) would cut back on the credit they advance on orders to the more unstable retailers. A firm like Roslyn faced a most unpleasant choice: Either ship to these retailers (which often meant a mad scramble for cash) or risk losing sales. Fearful of the second possibility, at Lynn’s insistence Roslyn would continue to supply all but the most unreason-able orders. And Lynn is quick to point out that, despite this decision, the company’s average collection period of 62 days is not terribly different from the industry median of 50 days.
Another reason that Rose wants to sell his interest is that he is losing confidence in Lynn’s managerial expertise. When the firm was small Rose felt that Lynn did a fine job, but he now wonders whether Lynn is capable of efficiently running a firm as large as Roslyn. He questions, for example, the firm’s inventory procedures and Lynn’s decision three years ago to retire all long-term debt. The latter move was predicated by Lynn’s fear that Roslyn’s business risk was increasing. He cited the difficulties of seemingly rock-solid retailers like Bloomingdale’s and Campeau to support his claim. Lynn also pointed out that the company’s stock represents an extremely large proportion of the personal wealth of both him and Rose. “It’s true” he told Rose, “that we could borrow at 9.5 percent, which is only two percentage points above the long-term government bond rate. But given our personal investment situation, I hesitate to add any financial risk to the high business risk we’re exposed to.”
THE CONSULTANT’S RECOMMENDATIONS
Although Rose owns half of the company, Lynn’s personality is such that he has effectively seized control of the firm, and no major decision that he opposed has ever been approved. An important recent example of this was Lynn’s reaction eight months ago to the report of a consulting firm. The consultants recommended that Roslyn implement more sophisticated accounting procedures and make greater use of the computer. They also suggested that Roslyn “very seriously” consider building a state-of-the-art distribution center that would allow the firm to handle big orders from retailers such as K Mart and Wal-Mart. Lynn read the report thoroughly and said he would explore further computerization and alternative accounting procedures. However, he rejected the distribution center because he considered the estimated $5-million to $8-million cost “excessive.” He felt that “sizeable” capital budgeting projects should be avoided until he was confident that the firm was on a solid financial base. In fact, Roslyn’s capital budget over the last three years has equaled the money necessary to maintain the firm’s plant and equipment, an average of $124(000) a year. Lynn admits, though-and Rose agrees-that without large orders from the major retailers, sales growth should only be in line with inflation, about 4 percent per year.
Rose wondered whether Lynn was really concerned that implementation of these proposals would necessitate bring in outside capital, given his debt policy. If so, Lynn would own less than half of Roslyn, a scenario that might eventually lead to his ouster.
In fairness, however, the relationship between the two partners has been relatively smooth over the years. And Rose admits that he may be unduly critical of Lynn’s managerial decisions. “After all” he concedes, “the man seems to have reasons for what he does, and we have been in the black every year since we started, including the last one, which was especially difficult for a firm in our business.” Nonetheless, at present (late 1995), Rose has decided to seriously pursue the sale of his interest, and believes he has two options: sell to Lynn or to a major apparel maker.
POSSIBLE SUITORS
Rose knows that there are a number of much larger apparel manufacturers who are shopping around for additional acquisitions. The company’s banker gave Rose a list of big apparel makers that might be interested in purchasing Rosyln (see Exhibit 6), but cautioned that these firms were looking for companies with specific characteristics. Most important, the firm would need to have established brand names. In addition, current management must be the people who developed the firm’s corporate culture, they must still be capable of performing,and the must be willing to remain. Rosyln undoubtedly has the reputation, and Rose is more than willing –even eager—to stay on.
Still, he fears that these major firms may simply be bargain hunting. It is no secret that the misfortunes of many big retailers have made the operation 0f accompany like Rosyln more difficult. Rose thinks there will be no shortage of apparel firms wanting to acquire Rosyln.
And he wonders how a potential buyer would react to Lynn’s presence. After all, a new owner would not have absolute control over Roslyn’s operation, and all, a new owner would not have absolute control over Roslyn’s operation, and Lynn is likely to be a hard person to deal with.
When Rose informed Lynn of his desire to sell, Lynn said that he was not surprised and wanted the chance to make an offer. Lynn thought he could find backers but made it clear that any agreement would require Rose to stay with Rosyln for at least three years, a condition Rose feels he “can live with.”
Rose thinks that the starting point for the analysis should be the liquidation value of the firm. The inventory, though excessive in his view, contains fashion-able items in good condition and probably can be sold to net 70 percent of book value after taxes. Rose believes this same percentage is appropriate for the firm’s receivables. Most of Roslyn’s plant and equipment is state-of-the-art, and a reasonable estimate is that the after-tax market value is $400,000. Liquidation has a cost, of course, since there would be legal and administrative fees. Rose has no good idea what they would run and decides to assume $300,000.
He is confident, however, that Rosyln is “worth more alive than dead” and wonders if a comparables approach wouldn’t be useful. The problem, of course, is to find firms that are really comparable. Companies differ so much in size, product line, markets, etc., that true comparables are hard to find. And ideally such firms should be publicly traded.
Rose concludes that he “most certainly” needs outside help to decide what price to accept and is sure Lynn will do the same.