Lowe’s goes public

Leonard Herring recalls all the wheeling and dealing revolving around the company’s IPO.
From My Link in the Chain by Leonard Herring with Deni McIntyre. Copyright © 2008 Leonard G. Herring. Published by and used with the permission of Loose Ends Press.

Carl Buchan once told a reporter: “When I was a little boy, I never wanted to be a policeman or a doctor or a fireman. I just wanted to make a million dollars.” By 1960, he had done that several times over, but it didn’t make him any less driven. He found a bigger goal: to make Lowe’s Cos. the largest and most successful business of its type in the world, owned and controlled by the people who built it. Starting with a hardware store his father-in-law opened in North Wilkesboro in 1921, he rode the post-war building boom with his retail genius to create a 15-store chain. He also assembled an executive team he believed could achieve that larger goal: Pete Kulynych, purchasing; Joe Reinhardt, distribution and data processing; Bob Strickland, marketing; Johnny Walker, sales; and Leonard Herring, finance. But a heart attack killed Buchan, 44, in October 1960, before the Lowe’s profit-sharing plan could begin to acquire the 90% of company stock he owned. What follows is a hard lesson in high finance from the memoirs of Herring, Lowe’s president and CEO from 1978 to 1996. The first part, published in last month’s issue of the magazine, can be found at www.BusinessNC.com/herring.

In the end, it was a connection at Wachovia Bank and Trust — executor of Carl’s estate — that led to a solution. Dick Page previously had worked at Guaranty Trust Company of New York, and he made a call. That led to other calls, until a phone rang on the west coast of Florida at the offices of Bevis Industries. Bevis, a mortgage company and maker of shell homes, was a failing enterprise that had been circling the drain for months. Its main life support at this point was one determined Yankee named Gordon Cadwgan (pronounced Cadoogan), an investment banker who had pumped a client’s funds into Bevis and now was damned if he would stand by and watch that investment disappear. Cadwgan was a partner in the firm of G.H. Walker & Co. in Providence, R.I., but lately he had been spending more than half his time in Florida, trimming Bevis down in an effort to keep it alive. Eventually he succeeded.

When he took the call at Bevis that day, Gordon heard the voice of his young assistant in Providence, Bob Huckins, who said, “Mr. Walker [George Herbert Walker, an uncle of the 41st U.S. president] wants to know if you would mind stopping in North Carolina the next time you head home. There’s a former Guaranty Trust officer there named Dick Page who would like to talk to you.” Gordon said he would do it.

He flew to Winston-Salem on a Friday morning in April and met Dick Page, who told him about Lowe’s and the situation with Carl Buchan’s estate. Gordon was intrigued enough to drive up to North Wilkesboro and meet our team. Decades later, he still remembers his first North Wilkesboro experience. It featured an overnight stay at the old Wilkes Hotel, a wide-eyed visit to a Baptist revival tent and the Friday night scene of cars and pickup trucks cruising the small-town streets. We liked Gordon immediately and unanimously. He was obviously intelligent and seemed vaguely aristocratic, although that might have been the effect of his New England accent and his education at Brown University — an education that, he would later tell us, his mother had cleaned houses in order to give him. He was a good listener and took in everything we told him without raising an eyebrow, as if he dealt with situations like ours every day. Maybe a well-run little company like Lowe’s, even in its current crisis, made a pleasant change from the woes of Bevis.

We talked to Gordon all afternoon, until finally he said that he would think about our situation overnight and meet with us again in the morning. We assumed that he wanted some time to consider the possibilities, but what he really needed was, simply, a meal: He hadn’t eaten since leaving Florida. We were so intent on supplying him with information that we had forgotten to supply him with food. Gordon was in his mid-40s then and had seen the inner workings of lots of businesses. He told us later that the most important lesson he had learned was, “Don’t bet on balance sheets and income statements; bet on people.” As he thought about Lowe’s over dinner and through the course of an evening stroll, he focused his financial acumen on two or three points that he thought might advance our cause. But he wouldn’t have gone any further if he hadn’t thought that our team was a good bet.

The next morning we met again, and at the end of the session Gordon said that he would continue to think about it and would get back to us. Somehow, although he hadn’t promised anything, we were encouraged. Bob Strickland remembers all of us agreeing that “he’s the one!” We might have neglected to feed him, but we didn’t make him retrace his route through Winston-Salem: We asked Max Freeman, Lowe’s pilot, to fly him to Raleigh, where he caught a commercial flight home.

Back in Providence at G.H. Walker, Gordon worked out a plan that would make it possible for us to borrow money to buy Carl’s stock from the estate, then take the company public and sell enough shares to pay back the money we had borrowed. He felt good enough about this plan that he made an appointment to meet with us again on his next trip to Florida. This time, we asked Lowe’s general counsel Bill McElwee and banker Ed Duncan to join us.

Gordon told our group that as long as it was in the estate, Carl’s stock had less value than it was really worth. This was because there was no market for it (as Wachovia, the trustee for his estate, had discovered) and because it had no practical operating control. We should be able to buy the stock at a price that reflected these realities. Once we owned the stock, it would be worth more, and we could offer some of it to the public while retaining enough to control the company. All we had to do was get a loan that would bridge the gap between buying the stock from the estate and taking the company public.

It was a bold plan that could fail at several points. If it failed, well, then Carl’s plan for Lowe’s would have failed, too. But if it succeeded, Carl’s team could carry on running the company the way Carl had intended. And everyone who believed and invested in Lowe’s would make money.

Gordon went on to Florida, but within a week we called him and said, “We’d like to work with you.” I’ll admit I drew a huge sigh of relief once we made the decision, and not just because I thought Gordon Cadwgan was the right man for us. Over the preceding weeks I had received several calls from our contact at Alex. Brown and Sons, wanting to know if we were ready to agree to their offer. The last call had come to me at home in the evening, just a couple of days before the meeting with Gordon. The man at Alex. Brown said, “Before we hang up, I have to know if you’re going to do the deal with us or not.” I took a deep breath and told him that we weren’t, but it felt like I was burning one bridge without having a sure alternative.

The next step was to get that bridge loan. Since Dick Page had started this whole process by calling Morgan Guaranty, and since Gordon had done some business with Guaranty Trust before it merged with J.P. Morgan & Co. in 1959, that was the obvious place to go. I spoke with Gordon recently about this. Now in his early 90s, he is still sharp and funny and worth quoting directly. This is what he told me:

“I asked Herbie Walker, the senior partner in my firm, if there was anyone in particular at Morgan Guaranty that I should talk to. The name he gave me was Sidney Lanier, one of the commercial loan officers. Well, after 45 minutes with Sidney Lanier, I decided he should have been a poet like his famous grandfather and namesake. He turned me down cold. I went in asking for $4.3 million, and I described the situation. He asked, ‘What collateral would we have?’ — which meant that he hadn’t really taken in my explanation. So I said, ‘Collateral? Some plywood, some rubber tires, some washing machines and plumbing supplies.’ He was very upset: He thought I was being a wise guy.

“I went back to my office and told Herbie, ‘He’s no good to me at all.’ And he said, ‘Well, let me call Jack Kingsley.’ Kingsley was a director of Guaranty Trust and the sole trustee of the Phipps estate. He happened to be at home, nursing a bum knee from a tennis match. Herbie called him, and he said, ‘Time to talk to Edward Glass.’ Edward Glass was a vice chairman of Guaranty Trust not far from retirement. Kingsley thought he would give me a sympathetic ear, so I called his secretary, and she told me to come to the bank, which closed at 3:30. I went to the bank, to the back of the lobby, and took the elevator to the sixth floor. The secretary was not far from retirement herself. She said that Mr. Glass was on the telephone but would see me in a few minutes. Sure enough, after several minutes he emerged from his inner office and said, ‘What can I do for you?’ I said, ‘I’ve been working with a group of young executives at a company called Lowe’s. The sole stockholder recently died in his sleep. They need a way to get his stock out of the estate and pay the estate an appropriate amount for it.’ Then, I said, they would take the company public.

“He said, ‘How much do you need?’ I think I told him $4.3 million. He asked me what I had seen in the company; I told him the balance sheet was OK; the earnings record was not fantastic but was OK, earning about 90 cents per share. He asked what I thought the stock was worth, and I said, ‘Twelve or 13 times the 90 cents earnings.’

“He asked, ‘How much do you think you’ll have to pay to the estate?’ and I said maybe 60% of that amount because of the two flaws I had perceived in the stock — the lack of a market and lack of operating control. Then he asked what bank they used, and I told him about Northwestern Bank and Edwin Duncan. He said, ‘Well, they’re a correspondent of ours, so we could turn over the handling of the note to them.’ Then he asked, ‘How would we get our money back?’ I said, ‘I’ll start working on it right away, and I’ll see that the syndicating is done’ — that is, getting other firms to participate in the underwriting. I knew I could get all the firms that were involved with the Bevis financing. And I knew I could get Merrill Lynch, because Edward Pierce was a good friend of mine and a Brown University trustee. So Edward Glass said, ‘OK, let’s start the process.’”

Not long after that, Gordon, Bob Strickland and I were seated around a table in the Biltmore Hotel in New York. Gordon told us that Morgan Guaranty needed some acceptable collateral to close the bridge loan. We batted some ideas around, and then it occurred to me: “What if we pledged Lowe’s accounts receivable?” Lowe’s sales had topped $30 million in 1960, and credit sales were about two-thirds of that. “That might do it,” Gordon said. He left the table to make a call from the phone booth in the lobby, and when he came back he said, “They’ll take it.” And we had it.

Well, it wasn’t quite that simple. The profit-sharing plan was the vehicle that Carl Buchan himself had chosen for the transfer of his stock to Lowe’s employees, and Gordon had concurred that it made sense for the plan to buy the stock, if only we could get enough money into the plan. So it was the profit-sharing plan that was actually applying for the loan from Morgan Guaranty. However, the accounts receivable — the funds owed to Lowe’s by its credit customers — didn’t belong to the profit-sharing plan but were assets of the individual Lowe’s stores. Carl Buchan had owned most of the stock in those stores, and his friend Robert Hanes had owned some, but there were also about 100 employee shareholders.

To pledge the accounts receivable as collateral for the bridge loan, we needed the signature of every shareholder, giving us permission. We had the papers drawn up, and one spring day I climbed into the Cessna next to Max Freeman, and we flew to every Lowe’s location where an employee owned Lowe’s stock. They were all briefed on the situation in advance, and in most cases they met us when we landed. They signed the papers right there on the wing of the plane, and we took off for the next town.Within a week, I had all the signatures we needed. Morgan Guaranty did the paperwork for the loan, and I prepared (as trustee of the profit-sharing plan) to fly up to New York and sign it.

I was in the office of Leon Rice, the Winston-Salem lawyer representing us, on the eve of the closing when I received a call from a Thomas Darst Jr. of Cherokee Securities in Manhattan. He had heard of Lowe’s upcoming transaction with Morgan Guaranty (God knows how) and said that he had an interest in the proceedings. It seemed Carl Buchan had used him as some kind of intermediary with Met Life the previous summer. The quid pro quo, he said, was that Carl had promised him first dibs on financing deals for the next two or three years. Now he was threatening to appear at the upcoming Morgan Guaranty closing if we didn’t pay him $1 million.

There was documentation supporting his claim. On March 26, 1960, Carl had written Darst an extraordinary letter, of which a carbon copy still existed. It was a manifesto detailing Carl’s personal background as well as his history with Lowe’s, and it expressed his absolute dedication to the company. No dollar amounts or deals were mentioned, but it was clearly written by a man making a pitch. Here are a few excerpts:

“I was raised in Pinehurst, North Carolina, and spent my boyhood in this section. As you well know, this was a popular winter resort for many wealthy northerners. Those were the days of the Pierce Arrow, the Packard, the Rolls Royce and the Stutz Bearcats [sic]. Many were the days that I sat by the side of the road between Pinehurst and Southern Pines, watching these elegant chauffeur-driven vehicles roll by — promising myself that someday I would be part of this parade. ... As a man grows, so do his ambitions. After I became worth a million dollars, my next goal was to make a million dollars after taxes in one year. This goal is now at hand. I now desire to build this business into the largest and most successful of its type in the world, owned and controlled by those who have built it. ... LOWE’S IS MY LIFE. If there is any other information you desire, I shall be very happy to submit it.”

This was not the first time that Carl Buchan had made a deal without telling anyone else at Lowe’s — although it probably was the last. Now the most important thing was making sure that Darst didn’t mess up the deal with Morgan Guaranty. That bridge loan was the keystone that would make possible the rest of our plan for Lowe’s. Leon Rice and I immediately agreed that Darst should be paid off before the closing at Morgan Guaranty. I got a certified check for $1 million, took it to the headquarters of Cherokee Securities and personally handed it to Thomas Darst. He looked at it in some surprise and said, “You didn’t have to get a certified check.” I said, “Well, we didn’t want there to be any question or doubt about it.” Then I went to Morgan Guaranty and signed the loan papers.

As soon as the $4.3 million had been deposited to the account of the profit-sharing plan, we met with the trust officers at Wachovia and wrote a check to buy Carl’s stock from his estate. Lowe’s now belonged to its employees, just as Carl had wanted. But there was no rest for the weary. We had to take the company public, in order to retire the debt to Morgan Guaranty. And the list of prerequisites for that action was as long as my arm.

We had to reorganize Lowe’s into one company, dissolving all the individual store corporations that Carl had formed. Although Carl’s organization had been devised to take advantage of the income-tax structure, not to benefit individuals, there were dozens of individuals who had reason to be grateful for it now. I was one of them: Carl had made me a director of several of the stores by giving me shares of stock in those stores. In addition, I had gone into debt to buy shares in the Roanoke store when it was being built, and I had acquired shares in the Durham store on Carl’s instigation when someone had to sell back their shares because they were leaving the company. Now those shares would be converted into a proportionate percentage of ownership in the new consolidated Lowe’s. It was decided that the new company would initially be divided into 1.15 million shares, a number small enough for each share to have real value yet large enough to cushion volatility.

The actual book value of Lowe’s net assets was a little under $6 million. If you divided that by 1 million shares, each share was worth about $6. That meant that my original shares, for which I had paid a total of $788, were worth more than $20,000 once they were converted into new shares. Of course, all that was just on paper unless I sold shares. I didn’t want to do that — and I couldn’t do it yet anyway. What I did have to do, along with the rest of the team, was try to build the company’s assets. Our hands had been tied while the stock was in Carl’s estate, but now we could go back to running Lowe’s the way we knew how. Or at least the rest of the team could; I was pretty thoroughly occupied with the reorganization and preparing for the initial public stock offering. The others knew and appreciated what I was doing. Johnny had circulated a memo that said basically, “You take care of this stuff, Leonard, and we’ll run the company.”

But there was one delicate matter related to reorganization that required the entire team’s consent and goodwill. The new Lowe’s was going to need a president. Elevating one of us would have caused immediate friction in a group that was facing enough challenges already. In addition to that, although we all were totally committed to Lowe’s and knew the company inside and out, in the eyes of the larger business community we were still too young and inexperienced to be in charge of a big public company. What we needed was a figurehead: someone with plenty of experience who would inspire confidence in the analysts and other Wall Street experts who would soon be scrutinizing Lowe’s.

Ed Duncan was the obvious choice. He had built Northwestern Bank into a financial powerhouse, and he was known and respected throughout the region and beyond. He had been Lowe’s financial adviser for nearly a decade, and he already had a job, so he wouldn’t get too involved with the daily running of Lowe’s. We could all continue to work as a team, and Ed would mediate any differences among us — as well as serving as Lowe’s front man.

I don’t know what the others were thinking when I broached the subject in a meeting in July or August. Maybe every single one of us was a little bit disappointed that the other four didn’t say, “Well, it’s clear that you should be president.” But if we felt that way, we all sublimated it — all except for Johnny Walker, who said, “Why don’t we elect ourselves as the officers?”

I said, “If we elect any one of us to do the job, there will be problems and it won’t work. If we stick together, nobody can get to us; but if we start feuding among ourselves, we’re sunk.” I said that we needed to go outside the company, and I proposed Ed Duncan for the job. The others immediately saw the potential of the idea — and the protection from rampaging ambition. Ed Duncan would be more like an adoptive uncle than another sibling contending for power. We voted, and I was delegated to approach Ed with an offer.

I went out to see him one evening at his home on the farm in Sparta. I sat with him in his living room and asked him to be the president and chairman of Lowe’s Companies Inc., a new public corporation. I offered him a $50,000 annual salary, which (I knew) was more than he was making at the bank. That shocked him. I can’t remember now if he gave me his answer right away, but it didn’t take him long to decide. Lowe’s had its new president, and people who had written off the company when Carl died now sat up and took notice that Lowe’s was, in fact, alive and well.

Gordon Cadwgan endorsed our choice of president and agreed to become a non-executive director on our new board. The other directors were the five of us on Carl’s team plus Bill McElwee, whom we invited to become a vice president as well as a director. Gordon’s big task now was to create an underwriting syndicate for Lowe’s IPO. He called on dozens of firms from New York to St. Petersburg, Fla., Atlanta and Chicago. In answer to the question, “What do you see in this company?” he would tell them that the balance sheet and income statement didn’t reflect the true value and that what he really saw was a group of people who were totally committed to making Lowe’s successful. They seemed to understand and accept that. Still, his summer on the road had its stressful moments, as he recalls:

“One hot morning I was in my room at a hotel in Asheville when I got a call from Fred Wonham, who was president of my firm, G.H. Walker. By that time, everyone had the figures for the prospectus. Fred said, ‘Gordon, you’re talking about a price of $12 or $13 per share. It isn’t worth that, and Herbie Walker won’t do it.’ Herbie was the chairman.

“I said, ‘Fred, I’ve already committed the firm.’ He said, ‘Well, $11 per share then or $11.50.’ And it was a very hot morning, and my room was a small room with a window air conditioner. And all of a sudden, I began to feel awful. I said, ‘Freddie, I don’t give a damn what Herbie Walker says. I’ve committed the firm and we can’t get out of it, and now I’m hanging up the phone because I don’t feel well.’

“What had happened was that the air conditioner had frozen up and pumped all the air out of the room. As soon as I opened the door and got some oxygen, I felt OK.”

My own summer had its light-headed moments, too, as I scrambled (not without assistance, thank God) to get Lowe’s ready for its debut as a public company. Although I had analyzed some public companies when I worked for Dun & Bradstreet, there was a lot about going public that was new to me.

All incorporated businesses issue stock. However, since most start out small, there are usually just a few stockholders. That’s how it was when Carl incorporated each Lowe’s store separately. Before a company can sell stock to the general public, however, it has to register with the Securities and Exchange Commission and prepare public-offering documents that include a prospectus. Intermediaries called underwriters (such as G. H. Walker and the other investment bankers that Gordon was syndicating) buy stock from the company for resale to the public. The underwriters and the company agree on the opening price for the stock. That price is based on factors including the company’s earnings, its growth potential and conditions in the marketplace. It also includes the markup the underwriters add to the stock as the underwriting fee.

I had worked mostly with Gordon to arrive at the right price for Lowe’s IPO. Our basic formula was Lowe’s current earnings (90 cents per share) times a multiple (ours ended up being 12.45), for a price to the underwriters of $11.20 per share. Adding the underwriters’ spread of $1.05 per share, we arrived at a target offering price of $12.25. We decided to sell 415,000 shares, which would comfortably allow us to pay off the bridge loan. Gordon’s syndicate ultimately consisted of 42 underwriters who bought the stock in aggregates ranging from 4,000 shares to 88,000 (that was G.H. Walker). On top of that, Gordon had told us that he would very much like to have 10,000 shares for the officers, directors and staff of G.H Walker, and they would pay the full public offering price — $12.25 per share.

The IPO was set for Oct. 10. The customary “red herring” prospectus was printed, containing everything but the share price, which would be officially set on the morning of the offering. Everything seemed to be in order. But for Gordon there was one more bump in this road. He had gone back to Providence and taken orders for those 10,000 shares, signing for a couple of thousand himself. Then just a few days before the IPO, a lawyer named Frank Crabill called from Dewey Ballantine, the firm that provided legal counsel for G.H. Walker & Co. He said the SEC had advised that if anyone who was associated with an underwriter got stock or options, they had to hold them for “investment purposes.”

Gordon recalls, “I asked what are investment purposes? And Frank said, ‘Well, we don’t know. This has never happened before: You’re the guinea pig. But we think it means you have to hold the stock for three years.’ So I got the word around G.H. Walker that if anyone bought Lowe’s stock, they were going to have to hold it for three years. Then as now, most of these people considered seven months a long-term holding. So they backed out. And I had a meeting scheduled with Lowe’s people a day or two before the offering to confirm that everything was set.

“What could I do? I went down to Hospital Trust, where a classmate from Brown was one of the loan officers, and I said, ‘Bud, I’ll take a second mortgage on the house, I’ll pledge my other securities, I’ll pledge my wife and kids, but I need $65,000.’ And he lent it to me. So when I went to that meeting and Leon Rice asked, ‘Gordon, are you all set?’ I was able to say, ‘Yes.’ I got something like 5,300 shares out of the 10,000. And from then on at every partners meeting at G.H. Walker, I always ended by standing up and saying, ‘Gentlemen, I want to thank you for creating the opportunity for me to buy more Lowe’s stock at the IPO than I could have any other way.’”

The world didn’t stop while we were pre-occupied with Lowe’s affairs. In fact, 1961 was a particularly turbulent year, due largely to the Cold War. In January the United States broke off diplomatic relations with Fidel Castro’s Cuba; the Bay of Pigs invasion failed in April. Also in April, a Soviet “cosmonaut” named Yuri Gagarin became the first human being to orbit the Earth in a spaceship. Partly to save face, President Kennedy announced that the U.S. would put a man on the moon before the end of the decade.

The Berlin Wall went up in August, in a move by Soviet-dominated East Germany to stem the flood of emigration through Berlin to the West. In Southeast Asia, our ally Laos was losing ground to Communist-led rebel forces of the Pathet Lao, while South Vietnam suffered escalating aggression from Communist North Vietnam. On a brighter note, President Kennedy initiated an international outreach program that was seen as a boondoggle at first, although it has stood the test of time. He called it the Peace Corps.

Oct. 10, 1961: It was 12 days short of one year since Carl Buchan died. I was in New York with Gordon Cadwgan and Ed Duncan. That morning we officially set Lowe’s share price at $12.25, and the prospectus was amended and reprinted. Down at Lowe’s general office, a telegram arrived addressed to me. It read:



We did it.

(For the previous installment see April 2009: Playing the hand you’re dealt.)