The Real Romney

by Kranish, Michael

  Ultimately, Bain won the bidding for Accuride with a $200 million offer, an offer that was highly leveraged. Romney put just $5 million of Bain’s money at risk; the rest was borrowed from banks, and, as was typical in a buyout, Accuride would be responsible for repayment. It was like buying a house with 1 percent down and someone else on the hook for the mortgage. No wonder the LBO business was alluring. The only catch was that the value of the business—the house—had to go up to make it all work. Accuride did, and the bet paid off handsomely for both Bain and the wheel-rim maker. The company’s earnings rose by 20 percent in the first year on Bain’s watch, and the number of plant jobs increased by 16 percent, to 1,785. Eighteen months later, Bain sold Accuride to the mining conglomerate Phelps Dodge Corp., turning its $5 million into $121 million. This was its first big LBO hit.

  Romney couldn’t have predicted how successful the Accuride deal would be. But his decision to try to pull it off put Bain Capital on the map. Bain’s partners believed they had joined the big time, even before the profits were in, and felt ready to celebrate. Romney, famous for being tightfisted (and not a drinker), was not the sort to host the kind of champagne-soaked party typical of buyout firms in the 1980s; he ran a spartan operation. Rehnert recalled being among the first at Bain to have a cell phone in his car. Romney was aghast, asking why he was wasting money on the device, which at the time was unwieldy and unreliable. Why not wait to use a landline or stop at a pay phone? he asked. Rehnert also recalled going with Romney to Au Bon Pain, a fast-food restaurant. Romney got his lunch and began carefully counting his change. Rehnert said he asked him why he bothered. “I throw mine in the fountain over there,” he told Romney. Romney looked stunned, even “viscerally pained,” not realizing his colleague was joking. But Romney did have a fondness for fine meals at fancy restaurants. So on the night the Accuride deal was sealed, Romney took his partners to L’Espalier, one of Boston’s finest French restaurants. The crew left behind their mishmash of metal desks and dined on haute cuisine, celebrating what they considered a great success after the ups and downs of the firm’s first two years.

  Billions of dollars were being made in the field of leveraged buyouts in the roaring eighties, and Romney was fully in the game, continuing to ratchet up his favored strategy. On the campaign trail in 2011, Romney said his work had “led me to become very deeply involved in helping other businesses, from start-ups to large companies that were going through tough times. Sometimes I was successful and we were able to help create jobs, other times I wasn’t. I learned how America competes with other companies in other countries, what works in the real world and what doesn’t.” It was a vague summary of what was a very controversial type of business. In his 2004 autobiography, Turnaround, Romney put it more bluntly: “I never actually ran one of our investments; that was left to management.” He explained that his strategy was to “invest in these underperforming companies, using the equivalent of a mortgage to leverage up our investment. Then we would go to work to help management make their business more successful.”

  Romney’s phrase “leverage up” provides the key to understanding this most profitable stage of his business career. While putting relatively little money on the table, Bain could strike a deal using largely debt. That generally meant that the company being acquired had to borrow huge sums. But although the strategy had worked with the Accuride deal, there was no guarantee that target companies would be able to repay their debts. At Bain, the goal was to buy businesses that were stagnating as subsidiaries of large corporations and grow them or shake them up to burnish their performance. Because many of the companies were troubled, or at least were going to be heavily indebted after Bain bought them, their bonds would be considered lower grade, or “junk.” That meant they would have to pay higher interest on the bonds, like a strapped credit card holder facing a higher rate than a person who pays off purchases more quickly. High-yielding junk bonds were appealing to investors willing to take on risk in exchange for big payouts. But they also represented a big bet: if the companies didn’t generate large profits or could not sell their stock to the public, some would be crippled by the debt layered on them by the buyout firms. This was the world that Romney now embraced wholeheartedly.

  The arcane domain of corporate buyouts and junk-bond financing had entered the public consciousness at the time, and not always in a positive way. Ivan Boesky, a Wall Street arbitrageur who often bought the stock of takeover targets, was charged with insider trading and featured on the cover of Time magazine as “Ivan the Terrible.” Shortly after Romney began working on leveraged deals, a movie called Wall Street opened. It featured the fictional corporate raider Gordon Gekko, who justified his behavior by declaring “I am not a destroyer of companies. I am a liberator of them! . . . Greed, for lack of a better word, is good. Greed is right. Greed works. Greed clarifies, cuts through, and captures the essence of the evolutionary spirit.”

  Romney, of course, never said that greed is good, and there was nothing of Gekko in his mores or style. But he bought into the broader ethic of the LBO kings, who believed that through the aggressive use of leverage and skilled management they could quickly remake underperforming enterprises. Romney described himself as driven by a core economic credo, that capitalism is a form of “creative destruction.” This theory, espoused in the 1940s by the economist Joseph Schumpeter and later touted by former Federal Reserve Board chairman Alan Greenspan, holds that business must exist in a state of ceaseless revolution. A thriving economy changes from within, Schumpeter wrote in his landmark book, Capitalism, Socialism and Democracy, “incessantly destroying the old one, incessantly creating a new one. This process of Creative Destruction is the essential fact about capitalism. It is what capitalism consists in and what every capitalist concern has got to live in.” But as even the theory’s proponents acknowledged, such destruction could bankrupt companies, upending lives and communities, and raise questions about society’s role in softening some of the harsher consequences. As Greenspan once put it, “the problem with creative destruction is that it is destruction and there is a very considerable amount of turmoil that goes on in the process.”

  Romney, for his part, contrasted the capitalistic benefits of creative destruction with what happened in controlled economies, in which jobs might be protected but productivity and competitiveness falter. Far better, Romney wrote in his book No Apology, “for governments to stand aside and allow the creative destruction inherent in a free economy.” He acknowledged that it is “unquestionably stressful—on workers, managers, owners, bankers, suppliers, customers, and the communities that surround the affected businesses.” But it was necessary to rebuild a moribund company and economy. It was a point of view he would stick with in years ahead. Indeed, he wrote a 2008 op-ed piece for The New York Times opposing a federal bailout for automakers that the newspaper headlined, “Let Detroit Go Bankrupt.” His advice went unheeded, and his prediction that “you can kiss the American automotive industry goodbye” if it got a bailout has not come true.

  Of course, economic theories are one thing, and the impact of leveraged buyouts another. Some can have bitter consequences, yielding profits to investors but nothing good for the purchased company. Romney preferred negotiated buyouts over hostile takeovers, in part because he wanted to avoid the risk of negative headlines if a deal wasn’t welcomed by a targeted company. Romney and his partners also fervently believed that with their Bain background in tough-minded business analysis, they could make companies more valuable by working with them, something that would be difficult after a hostile deal. Romney’s low-profile approach was not the kind to capture headlines or the imagination of Hollywood, but his success was undeniable.

  As a result of the payoff from the Accuride deal, Romney’s first investment fund would return to his investors all the money they had bet and more, even if some of the other companies they bought went bad. Romney and his partners were on their way. “We were pretty happy,” said Josh Bekenstein. “I
t was pretty exciting to send more than a hundred percent of the fund back to the limited partners.” Under Romney’s arrangement with Bill Bain, about half of the profit of the first fund went back to Bain & Company partners who had invested in the new firm. Tellingly, the first pool of money for Bain partners in the fund had been called Meadowbrook, after a Bill Bain street address. But from then on, Romney and his Bain Capital partners controlled most of the profits, and there was no doubt about who was in charge. The second Bain investment fund was named Tyler, after the road Romney lived on in Belmont at the time.

  Bain Capital had become a hot property. So much money poured into Romney’s second investment fund that the firm had to turn away investors. Romney set out to raise $80 million and received offers totaling $150 million. The partners settled on $105 million, half of it from wealthy customers of a New York bank. It was a stunning turnabout from the scramble to raise the first fund a few years earlier; now they were competing with the big investment houses. During a break at a photo shoot for a brochure to attract investors, the Bain partners playfully posed for a photo that showed them flush with cash. They clutched $10 and $20 bills, stuffed them into their pockets, and even clenched them in their grinning teeth. Romney tucked a bill between his striped tie and his buttoned suit jacket. Everything was different now.

  It was time for another road show, but the days of soliciting prospects for scarce cash in obscure locales was mostly over. This time Romney and his partners headed to Beverly Hills, California. Arriving at the intersection of Rodeo Drive and Wilshire Boulevard, they headed to the office of Michael Milken, the canny and controversial junk-bond king, at his company, Drexel Burnham Lambert. Romney knew Milken was able to find buyers for the high-yield, high-risk bonds that were crucial to the success of many leveraged buyout deals. At the time of Romney’s visit, it was widely known that Drexel and Milken were under investigation by the Securities and Exchange Commission. But Drexel was still the big player in the junk-bond business, and Romney needed the financing. A former Drexel executive recalled that Romney met Milken a couple of times but the details of the deal making were left to Milken’s deputies.

  Romney had come to Drexel to obtain financing for the $300 million purchase of two Texas department store chains, Bealls and Palais Royal, to form Specialty Retailers Inc. On September 7, 1988, two months after Bain hired Drexel to issue junk bonds to finance the deal, the Securities and Exchange Commission filed a complaint against Drexel and Milken for insider trading. Romney had to decide whether to close a deal with a company ensnared in a growing clash with regulators. The old Romney might well have backed off; the newly assertive, emboldened Mitt decided to press ahead. At the time, Drexel was losing customers who didn’t want to be associated with the company, but Romney decided he needed the company’s access to money and stuck with Milken. “There were other people who were definitely deciding not to do business with Drexel if they had an alternative available,” said Marc Wolpow, a former Drexel executive involved in the Romney deal who later worked at Bain. “To Mitt’s credit, he didn’t back away when the Drexel mess occurred.” Prosecutors who worked on the case said the effort by Romney and his Bain partners to get financing from Drexel had never been part of their case against Drexel and determined that Bain could have gotten similar financing elsewhere. Romney, asked years later why he had risked being associated with Drexel, said, “We did not say, ‘Oh my goodness, Drexel has been accused of something, not been found guilty. Should we basically stop the transaction and blow the whole thing up?’ ”

  But after deciding to stick by Milken, Romney soon feared that the deal could blow up for another reason. He learned that the Drexel case was going before U.S. District Judge Milton Pollack. The judge’s wife, Moselle Pollack, was the chairman of and major stockholder in Palais Royal. Concerned that questions would be raised about a judicial conflict of interest, Romney called Drexel’s chief executive officer, Fred Joseph, “to make sure there would be no problem with the deal.” Drexel’s lawyers, seeing the potential conflict as an opportunity to stall the government’s prosecution, then sought to have Judge Pollack taken off the case.

  Romney’s determination to go ahead with the deal dismayed federal securities officials. They feared that Drexel was trying to use the appearance of conflict to get the case thrown out of court, according to James T. Coffman, who played a key role in the civil case against Drexel in his role as assistant director of enforcement at the Securities and Exchange Commission. “By doing the deal he enabled Drexel to use the claim of conflict of interest on the part of the judge—which I think at a minimum reflects a lack of concern about the impact of his financing activities on the administration of justice,” Coffman said about Romney. But the judge said there was no conflict of interest and, after a series of hearings, was allowed to remain on the case. The matter became moot when Drexel subsequently pleaded guilty. In the end, Romney’s deal with Drexel went through. Around the time it closed, Drexel pleaded guilty to six criminal counts of securities and mail fraud and paid $650 million in fines. Three months later, Milken was indicted on racketeering charges. Prosecutors alleged that Milken had manipulated stock prices and defrauded clients in order to complete his junk-bond deals. Milken eventually pleaded guilty to securities and reporting violations and served twenty-two months in prison.

  Romney’s deal with Drexel, meanwhile, turned out well for both him and Bain Capital, which put $10 million into the retailer and financed most of the rest of the $300 million deal with junk bonds. The newly constituted company, later known as Stage Stores, refocused in 1989 on its small-town, small-department-store roots. Sales climbed over the next few years, but a plan to sell stock to the public in 1992 failed to get off the ground. Four years later, in October 1996, the company successfully sold shares to the public at $16 a share. By the following year, the stock had climbed to a high of nearly $53, and Bain Capital and a number of its officers and directors sold a large part of their holdings. Bain made a $175 million gain by 1997. It was one of the most profitable leveraged buyouts of the era.

  Romney sold at just the right time. Shares plunged in value the next year amid declining sales at the stores. The department store company filed for Chapter 11 bankruptcy protection in 2000, struggling with $600 million in debt, and a reorganized company emerged the following year. So ended the story of a deal that Romney would not be likely to cite on the campaign trail: the highly leveraged purchase, financed with junk bonds from a firm that became infamous for its financial practices, of a department store company that had subsequently gone into bankruptcy. But on the Bain balance sheet, and on Romney’s, it was a huge win.

  Not every deal worked out so well for Romney and his investors. Bain invested $4 million in a company called Handbag Holdings, which sold pocketbooks and other accessories. When a major customer stopped buying, the company failed and two hundred jobs were lost. “It was a terrible situation,” Robert White, a Bain Capital partner at the time, said. Bain invested $2.1 million in a bathroom fixtures company called PPM and lost nearly all of it. An investment in a company called Mothercare Stores also didn’t pan out; the firm had eliminated a hundred jobs by the time Bain dumped it. White said Bain lost its $1 million and blamed “a difficult retail environment.”

  In some cases, Bain Capital’s alternative strategy of buying into companies also ended in trouble. In 1993, Bain bought GST Steel, a maker of steel wire rods, and later more than doubled its $24 million investment. The company borrowed heavily to modernize plants in Kansas City and North Carolina—and to pay out dividends to Bain. But foreign competition increased and steel prices fell. GST Steel filed for bankruptcy and shut down its money-losing Kansas City plant, throwing some 750 employees out of work. Union workers there blamed Bain, then and now, for ruining the company, upending their lives, and devastating the community.

  Then, in 1996, Bain invested $27 million as part of a deal with other firms to acquire Dade International, a medical diagnostics equipment f
irm, from its parent company, Baxter International. Bain ultimately made nearly ten times its money, getting back $230 million. But Dade wound up laying off more than 1,600 people and filed for bankruptcy protection in 2002, amid crushing debt and rising interest rates. The company, with Bain in charge, had borrowed heavily to do acquisitions, accumulating $1.6 billion in debt by 2000. The company cut benefits for some workers at the acquired firms and laid off others. When it merged with Behring Diagnostics, a German company, Dade shut down three U.S. plants. At the same time, Dade paid out $421 million to Bain Capital’s investors and investing partners.

  This was one of the basic tenets of LBO investing: even with large debts to pay off and operating challenges ahead, acquired firms were often obligated to make big payouts to the investment firms that bought them. Romney said later that he regretted that dividend payments to Bain had hurt some of the companies he and his partners had bought. “It is one thing that if I had a chance to go back I would be more sensitive to,” Romney told The New York Times in 2007. “It is always a balance. Great care has got to be taken not to take a dividend or a distribution from a company that puts that company at risk,” he said, adding that taking a big payment from a company that later failed “would make me sick, sick at heart.”

  In that time of immense success and growing personal renown, disaster loomed. Everything Mitt Romney had worked for was at risk as the calendar turned to 1991. His reputation, his business, his political future—all of it was on the line.