a definitive agreement, and the Vestar/Goldner groupand  its  advisors  finalized  their  due  diligence  of  regulatory  andenvironmental  matters.  During  these  negotiations,  among  otherthings, the proposed purchase price was increased to $30.10 pershare for the Michael Foods common stock.
During the same period, Mr. Ostrander and other members ofcompany management participating in the investor group, repre-sentatives  of  their  law  firm,  and  representatives  of  Mr.  Michael
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and other family members and affiliates and their legal counselnegotiated the terms of their participation in the transaction withVestar.  In  connection  with  its  proposal,  the  Vestar/Goldnerinvestor group indicated that participation by company manage-ment and the Michael family and affiliates, as continuing investors,was a condition of its willingness to proceed. Vestar negotiatedthe  terms  and  conditions  of  the  continuing  investors’  participa-tion directly with the investors, and neither the special committeenor the board took part in those negotiations. The special com-mittee and the board viewed their roles as acting on behalf of theshareholders who would not be continuing investors. The specialcommittee and the board did, however, review the proposed finalterms  of  the  continuing  investors’  participation  to  satisfy  them-selves  that  Vestar’s  condition  was  likely  to  be  met  and  that  thearrangements would not limit or otherwise preclude the board foreffectively  exercising  its  fiduciary  duties  or  contractual  rightsunder the merger agreement.
On  December  15,  2000,  Michael  Foods’  board  of  directors,with Mr. Ostrander and Mr. Michael recused, was updated by thespecial committee and its legal counsel and financial advisors onthe  status  of  the  negotiations  with  Vestar  and  its  due  diligenceprocess.  The  special  committee  and  its  legal  counsel  reportedthat significant progress had been made in narrowing the issuesof disagreement in the proposed form of the merger agreement,although the drafting of precise terms remained to be completed.During  the  afternoon  of  December  21,  the  special  committee,together with the full Michael Foods board, met with their legaland  financial  advisors  to  again  consider  the  transaction.  Repre-sentatives of their law firm reviewed with the special committeeand  the  board  the  responsibilities  and  fiduciary  obligations.  USBancorp Piper Jaffrey delivered its oral and written opinion thatas of December 21, 2000, the consideration to be received in themerger by Michael Foods’ shareholders, other than the continu-ing investors, was fair to such shareholders from a financial pointof  view.  After  a  detailed  discussion  and  analysis  of  the  entiretransaction  and  after  receiving  a  recommendation  of  approvalfrom  the  special  committee,  each  member  of  the  disinteresteddirectors committee, and the full Michael Foods board, with andwithout Mr. Ostrander and Mr. Michael participating in the vote,unanimously determined that the terms of the merger agreement
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were  fair  and  in  the  best  interests  of  the  Michael  Foods  share-holders  who  would  not  be  continuing  investors,  approved  themerger agreement and the transaction contemplated, and votedto submit the merger agreement to a vote of the shareholders ofMichael Foods and to recommend that Michael Foods sharehold-ers approve and adopt the merger agreement. In addition, the dis-interested  directors  committee  approved  the  participation  ofVestar and the continuing investors in the transactions related tothe merger. Later that evening, the merger agreement and the var-ious agreements among the investors were executed, and MichaelFoods and Vestar issued a news release announcing the executionof the merger agreement.
The  Michael  Foods  going-private  transaction  in  many  waysreflects the ongoing activities often seen among small public com-panies as well as larger private equity investors whose potentialstrategic and financial position often brings them into the microcap  arena  for  deal  activities.  In  many  ways,  the  Michael  Foodstransaction  is  a  textbook  case  study  in  the  dynamics  of  a  well-functioning  independent  board  of  directors,  the  self-interest  ofkey  executive  management  personnel,  and  large  private  share-holders, all culminating in a series of complex negotiations thatattempt to preserve the interest of all parties involved.
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CHAPTER 10
Gehl CompanyCase Study
This chapter will attempt to answer the following questions:
• What elements help identify a self-interested management?• How do you spot when management is not acting in the best
interest of shareholders?
Unlike Michael Foods, where management and other insiders hada large equity interest in the company, at the Gehl Company thechairman  and  CEO  had  very  little  financial  interest  in  the  com-pany other than the nepotism of the family namesake and the abil-ity to draw a large compensation package as a result.
The story begins in April 1999 at the corporate annual meetingof  Gehl  shareholders  that  was  held  in  West  Bend,  Wisconsin.William Gehl, the great-grandson of the company’s founders, waschairman and CEO of the company. He had taken over in 1992 andsince then had led a successful turnaround of the financial opera-tions of the Gehl Company, a small publicly traded manufacturerof  farm  equipment  and  construction  machinery.  In  1992,  whenGehl took over the management of the family business, it was anoverleveraged  micro  cap  carrying  a  debt  burden  of  $90  million,with sales of approximately $175 million. It had lost $18 millionthe  year  before  and  was  in  default  on  a  number  of  its  loans.  In
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addition, the Gehl Company had not come out with a new productor modifications of any existing products for over six years.
William  Gehl,  who  had  been  a  successful  securities  lawyerand  had  worked  on  Wall  Street  in  various  legal  functions,  nowcame home to take over the family company, where he had beenon the board of directors for five years. Gehl went to work imme-diately, cutting unprofitable business lines, mostly in slow-growthfarm equipment, and streamlining the manufacturing process. Heraised cash by selling excess inventory, closed out of several linesof business, and helped recruit distributors by convincing themthat  he  could  produce  and  deliver  machinery  better  and  fasterthan  larger  competitors.  In  addition,  the  company  took  toughaction  to  collect  past-due  accounts  and  worked  out  a  solutionwith lenders, convincing them that they would cover their debtswhile  streamlining  the  number  of  suppliers  they  worked  withand asking for a bigger financial commitment from their key sup-pliers.
In the sense of a micro cap company, it was a classic exampleof  a  new  management  team  in  place,  taking  actions  to  createshareholder  value.  During  1992  and  1993,  the  company  sharescould be purchased in a range of 30 percent to 70 percent of bookvalue during most of the two years. In addition, the shares tradedat  3.5  to  6.1  times  cash  flow  during  the  same  period.  This  wasindeed cheap, but at the time, the future of the company was seri-ously in question as a result of the high levels of debt and pooroperating performance. The catalyst of interest to the micro capinvestor in this case would have been the new management team.Within a year, the company had completed a major refinancing ata lower cost, paid off old debts, and was nearing the break-evenpoint  on  its  operating  business.  This  attracted  the  interest  of  anumber of smart-money micro cap investors, including the Heart-land Value Fund of Milwaukee, Wisconsin. (See Figure 10.1.)
In  the  meantime,  the  new  management  team  was  workinghard to change the company’s core business. When William Gehltook over, approximately 65 percent of the company’s sales camefrom farm equipment, which was a mature market, growing at aslow rate, while dairy farms were consolidating into bigger oper-ations  that  didn’t  buy  as  much  of  the  equipment  produced  byGehl. See the Suiza Foods case study in Chapter 9, for an over-view of the dairy business. Again, here is the thread of the fluid
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FIGURE 10.1 Gehl Company price chart.
milk industry consolidation and its impact on other companies,which  ultimately  created  opportunity  in  the  micro  cap  arena.(Note:  See  the  Morningstar  and  Michael  Foods  Case  Studies  inChapter 9.)
Company management had noticed that one line of businesscontinued  to  outpace  all  others.  The  company  was  a  manufac-turer  of  skid  loaders,  which  are  essentially  small,  multipurposefarm and construction vehicles that can be outfitted with variousattachments such as posthole diggers, loading buckets, backhoes,and  forklifts.  They  typically  sell  as  a  package  with  other  equip-ment for general contractors and larger farm operators.
Gehl  Company  had  redesigned  its  skid  loaders  for  the  lightconstruction  business  in  the  late  1980s  and  had  enhanced  itsoffering of skid loaders to the construction and farm sectors. Themanagement  team  saw  an  opportunity,  reasoning  that  as  theeconomy rebounded and as construction activity increased, con-struction and landscaping companies would need a larger num-ber  of  these  versatile  machines.  In  1997,  the  Gehl  Companybought Mustang Manufacturing Company, another maker of skidsteers  for  the  construction  business.  With  the  addition  of  Mus-tang, Gehl became the number four producer of skid loaders inNorth America.
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The overall market for skid loaders grew strongly from about6,000  units  a  year  in  1990  to  nearly  60,000  units  a  year  in  1999.About 65 percent of Gehl Company’s sales in 1999 now came fromthe  construction  equipment  business,  primarily  in  the  form  ofskid-steer loaders. The Gehl Company hoped to continue expand-ing that line of business.
During the same period, as the Heartland Value Fund contin-ued  to  accumulate  shares,  another  smart-money  shareholdershowed  up  on  the  scene.  James  Dahl  had  quite  a  history  in  thefinancial  service  industry.  Dahl  was  Michael  Milken’s  leadingbond salesman at Drexel Burnham Lambert during the junk bondera of the 1980s.
An  outstanding  account  of  that  entire  junk  bond  era  wasrecounted in a book by James B. Stewart in 1991 entitled Den ofThieves (Simon & Schuster). In this book, Stewart indicates thatDahl realized in 1988 that Drexel’s time was running out, as thegovernment  continued  to  investigate  the  practices  of  the  com-pany and increasingly focused on Michael Milken, the company’shead. Dahl believed that Milken would, if given the opportunity,sacrifice any or all of his associates to save himself. As a result,Dahl became a government witness against Milken in exchangefor  immunity  from  prosecution.  It’s  believed  that  without  Dahlturning  to  the  government,  Milken  would  never  have  been  con-victed. Milken eventually pleaded guilty to numerous felonies as aresult of Dahl’s direct testimony. It is reported that Dahl left Drexelin 1990, after selling his stake in the company for $50 million.
Dahl  now  runs  an  investment  advisory  firm  in  Jacksonville,Florida,  that  invests  in  privately  held  companies  and  micro  capand  small  public  companies  that  are  overlooked  by  analysts.  Inthe public market, he buys big positions in what he considers tobe undervalued companies whose industry dynamics are chang-ing. He then tries to work with management to boost share valua-tion and company performance.
During the first half of 1997, Dahl acquired a 5 percent stakein the company and on June 9, 1997, Dahl filed a Schedule 13-D,indicating an ownership interest in the Gehl Company of approx-imately  375,000  shares,  or  about  5.9  percent  of  the  outstandingcompany stock. At around the same time, Heartland advisors filednotice  of  ownership  of  approximately  660,000  shares,  or  about10.7  percent  of  the  company.  This  compared  to  the  executive
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officers of the company, who as a group owned less than 3.5 per-cent of the outstanding shares, with William Gehl personally own-ing approximately 2.3 percent of the outstanding common shares.As you might note, this is a management team that did not havemuch skin in the game, as investment bankers would say.
By the summer of 1999, Dahl had taken his stake in the com-pany  to  above  10  percent.  According  to  company  filings  andnewspaper reports, as Dahl accumulated shares, he phoned BillGehl  frequently.  In  most  instances  he  tried  to  discuss  merging,selling, or performing some other transaction that would increasethe company’s share price. In addition, he asked for a seat on theboard of directors and was refused by Gehl.
As time went on, Dahl’s advances continued to be rebuffed bythe company. However, it appeared that the company was movingtoward a position to be in play. With Dahl owning over 10 percentof the outstanding shares, Heartland Value Fund owning over 10percent  of  the  outstanding  shares,  and  the  appearance  of  Pio-neering Management Corporation of Boston, Massachusetts, fil-ing during 1997 a Form 13-G, indicating a 5.2 percent ownershipstake, it suddenly was apparent that large institutional investorswere becoming very interested in this small company.
In the meantime, Dahl got personal with Gehl. In a number ofnewspaper interviews, Dahl commented on William Gehl’s inabil-ity  or  unwillingness  to  proceed  with  any  actions  that  wouldenhance shareholder value. Dahl stated publicly that he felt thecompany should have been buying shares when they were as lowas $12 in the spring of 1997, indicating that contracting (shrink-ing) the shareholder base at that time would have boosted earn-ings  per  share,  potentially  raising  the  stock  price.  In  addition,Dahl criticized the company for failing to issue more shares whenthe stock hit $24 at a time when there were numerous potentialacquisition opportunities and the company could have used thecapital to enhance shareholder value and grow the company.
However,  Dahl’s  biggest  complaint  publicly  was  that  Gehlwasn’t  willing  to  listen  to  offers  from  other  companies.  Dahlbelieved that the giants of the construction industry were willingto  buy  all  or  part  of  the  company.  In  public  press  accounts,  heindicated that William Gehl flew to Tokyo to talk with KomatsuLimited, a large global manufacturer of construction equipment.He indicated that if William Gehl were a rational, clear-thinking
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businessman who had the interest of all shareholders in mind, hewould  understand  that  there  were  numerous  large  companieswilling to pay high prices to acquire a position in this growth mar-ket. In newspaper accounts, Gehl acknowledges going to Japan,but would not discuss the details of whom he met with or why hetook the trip.
In addition, a number of public research reports covering theGehl  Company  pointed  to  the  management’s  seeming  lack  ofinterest in increasing shareholder value. Some reports were criti-cal  of  the  compensation  taken  out  of  the  company  by  the  Gehlfamily.  During  1996,  William  Gehl  took  out  approximately$320,000 in salary and bonus. However, a careful reading of thecompany  financial  statements  indicates  that  “the  amounts  forbonuses in 1996 do not include bonus amounts in excess of targetwhich  are  credited  to  a  bonus  bank  maintained  for  each  of  thenamed executive officers.” Such bonus amounts in the bonus bankfor each of the named executive officers are scheduled to be paidout over time but remain at risk and subject to loss pursuant to thecompany’s shareholder value-added plan. This note indicated thatan undisclosed amount of compensation was being withheld forthe named officers of the company and, through various analyses,analysts believe that this may have been in amounts in excess of $1million per year; however, the company was unwilling to discloseany  amounts  publicly  that  were  credited  to  the  bonus  bank  formanagement performance. This became a hot topic of discussionamong  analysts.  The  perception  was  that  key  officers,  includingWilliam Gehl, were taking million-dollar pay packages while doinglittle or nothing to enhance shareholder value.
In addition, the analysts believed that the industry was chang-ing. Most analysts argued that mergers between small companiesthat rented construction equipment would hurt the unit volume ofsmall  manufacturers  of  construction  equipment  like  the  GehlCompany. As these rental companies became larger, they wouldnegotiate bigger and more significant discounts from the manu-facturers  of  construction  equipment.  In  addition,  they  providedeasy  venues  for  contractors  to  rent  on  a  long-  and  short-termbasis the equipment they needed to complete construction proj-ects  rather  than  buying  it  directly  from  distributors  that  repre-sented  companies  such  as  Gehl.  The  net  result  was  anotherchanging micro cap industry environment.
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Equipment rental companies like United Rentals, Hertz, andNES  were  gaining  the  clout  to  exercise  more  control  over  theentire construction equipment market. At the time, according tothe Rental Equipment Register, an industry trade publication, thetop 10 rental firms controlled over 30 percent of the constructionequipment market. Another estimate at the time from John Lenz,a market analyst with Yangst Associates in Wilton, Connecticut,said that contractors were still the largest buyers of skid loadersat  about  40  percent  of  the  skid  loader  market;  however,  rentalcompanies were close behind, with a 35 percent market share. Atthe  time,  about  7  percent  of  Gehl  Company  sales  of  equipmentwere directly to rental firms. As a note, this consolidation of therental equipment market is just another case study demonstratingthe potential opportunities in micro cap companies. Much like theSuiza case study in Chapter 9, this was another very public con-solidation of an industry that was declared in public filings by anumber of larger suitors.
Like Wal-Mart stores, the rental equipment giants were look-ing  to  acquire  large  quantities  of  low-cost  equipment  withoutregard for innovation or design uniqueness. This dynamic tendedto  favor  the  economies  of  scale  enjoyed  by  the  large,  low-costmanufacturers who had big distribution and maintenance organi-zations in place to service the growing rental companies. In addi-tion, skid load manufacturing companies that were competitorsof Gehl were quickly being purchased by larger public machinerycompanies. For example, Ingersoll Rand Company, the giant con-glomerate and one of the largest purchasers of raw material in theworld, acquired Melroe Manufacturing Company, one of the maincompetitors  of  Gehl’s  skid  loaders.  With  capital  provided  byIngersoll Rand, Melroe expanded its manufacturing capacity forits industry-leading Bobcat line of steer loaders. To make mattersworse  for  Gehl,  Caterpillar  and  Deere  companies,  both  largemanufacturers of construction equipment, introduced their ownlines of skid-steer loaders during 1997. An analysis of Gehl’s finan-cial  statements  indicated  that  skid-steers  were  Gehl’s  mostimportant  profit  center,  representing  44  percent  of  the  com-pany’s total earnings. Analysts believed that with the expansionof the Bobcat line capacity in conjunction with Caterpillar’s andDeere’s introductions of new skid-steer loaders, a price war wasabout to break out in the marketplace.
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In  a  growing  series  of  management  bungles,  William  Gehlannounced  publicly  in  the  media  that  “. . . long-term,  Gehl  cancompete with the biggest players. We’ve never shied away fromcompetition.”  Among  industry  analysts,  this  was  tantamount  toburying your head in the sand. In a well-published report, a lead-ing industry analyst commented that Gehl Company didn’t havethe  superior  product  nor  did  it  have  patent  protection  and  wascompeting against giants such as Caterpillar and Deere that hadbetter  access  to  financing,  more  distributorships,  and  deeperpockets. The large competitors could take losses in one segmentas they squashed you in another, the analyst noted.
At the same time, right in Gehl’s backyard of Wisconsin, therewere two more major consolidations going on within the industry.At the time, Case Corporation, which had more than 23 times thesales  of  Gehl  Company,  was  actively  beginning  a  merger  withNew Holland to form the largest farm equipment company in theworld. Both Case and New Holland were also major players in theconstruction  equipment  business  and  sellers  of  skid-steers.  Inaddition,  Omniquip  International,  a  small  publicly  traded  con-struction equipment maker based in Port Washington, Wisconsin,indicated  that  Textron  Industries  would  buy  the  company  for$477 million, or $21 a share—at the time, a 60 percent premium onOmniquip’s  $13  share  price  prior  to  the  announcement.  It  wastransactions  like  these,  which  could  have  easily  been  accom-plished  with  the  Gehl  Company,  that  were  endlessly  frustratingthe major shareholders of the company.
In what could be construed as the biggest slap in the face toother major shareholders, the Gehl Company bought out Dahl’sstake in the company for $20.50 a share, or $14.9 million, a 10 per-cent premium on the trading price of the company at the time. Inreturn, Dahl agreed not to buy Gehl Company shares for the next10 years or talk about the company without William Gehl’s per-mission. This self-serving treatment by management of one share-holder  over  another  shareholder  certainly  raised  the  hackles  ofother large institutional owners in the company. The perceptionamong  large  institutional  shareholders  was  that  William  Gehlwasn’t looking for someone to buy his company and was elimi-nating his largest public critic by paying greenmail to get rid ofDahl as a dissident shareholder.
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On July 9, 1999, Heartland Value Fund sent a letter to WilliamGehl asking Gehl to appoint an outside director as the company’schairman and to form an independent committee that would helpmanagement review merger and sale proposals. The letter becamepublic when it was filed with the Securities and Exchange Com-mission. In its filing, Heartland advisors indicated that the com-pany was exercising its responsibility as an institutional investorand sent a letter to the Gehl Company communicating its viewson  two  matters.  First,  they  recommended  that  a  committee  ofindependent directors be created for the purpose of reviewing alland any proposals made to the company concerning any extraor-dinary  corporate  transactions  such  as  a  merger,  reorganization,or liquidation involving the company or any of its subsidiaries oraffiliates  and  the  sale  or  transfer  of  a  material  amount  of  theassets of the company or any subsidiary of the company. In addi-tion, it would review any strategic alliance between the companyor  subsidiary  of  the  company  and  one  or  more  other  entities.Finally, Heartland advisors were recommending that the functionof president and chief executive officer be separated from that ofchairman  of  the  board—currently,  both  functions  were  per-formed by one individual. Heartland believed that each functionshould  be  performed  by  a  separate  person,  and  Heartland  hadrecommended  that  one  of  the  company’s  current  independentdirectors be named as chairman of the board and that the individ-ual who currently performed both functions continue to serve aspresident and chief executive officer. That individual was WilliamGehl. Ironically, the Gehl Company announced that it would buyout Dahl just three hours after the letter from Heartland was filedwith the SEC.
Gehl’s transaction with Dahl left Heartland advisors and othermajor  institutional  shareholders  holding  the  bag.  They  couldn’tget the same deal from the company, and because they owned somany  shares  of  this  thinly  traded  security,  they  knew  theycouldn’t get such a high price in the open market because a largevolume of shareholder sales would have caused a severe drop inthe share price. A number of institutional investors were under-standably  upset  with  this  transaction.  Several  months  before,  agroup of institutional shareholders had asked the Gehl Companyto buy back a block of shares into the company’s treasury at an
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average  price  of  $18.00  to  $19.50  per  share.  The  Gehl  Companyhad refused. The general consensus among institutional investorswas  that  William  Gehl  played  poker  with  Dahl  and  lost.  Institu-tional  investors  would  argue,  understandably,  that  Gehl  shouldhave  driven  a  harder  bargain  for  the  shareholders  if,  in  fact,  hehad their interests in mind. And if Gehl really believed the com-pany  stock  was  undervalued  and  wanted  to  help  shareholdersmake money, he would have found a buyer willing to pay what thecompany was actually worth.
As sad as it may be, the story of the Gehl Company’s disser-vice  to  shareholders  doesn’t  end  with  the  Dahl  transaction.  ByDecember  2000,  there  was  another  group  of  institutionalinvestors  that  emerged  as  shareholders  in  a  13-D  filing  on  theGehl Company. In a letter to the Gehl Company and shareholders,two  new  entities,  New  Castle  Focus  Fund  Limited  Partnershipand  CIC  Equity  Partners  Limited,  disclosed  that  between  April2000  and  November  2000  they  had  been  purchasing  shares  ofGehl  common  stock  in  the  belief  that  they  were  substantiallyundervalued. The parties behind New Castle Focus Fund and CICEquity  Partners  were  in  principal  Texas  billionaire  Harold  Sim-mons  and  two  of  his  executives,  Mark  Schwartz  and  Paul  D.Rederobbio.  On  November  8,  2000,  the  group  filed  a  Schedule13-D with respect to its collective beneficial ownership of approx-imately 6.3 percent of the outstanding shares of Gehl.
On  December  22,  2000,  New  Castle  Partners  and  CIC  pro-posed to acquire, through an appropriate acquisition entity to beformed, the outstanding capital stock of Gehl for $18.00 per sharein  cash,  subject  to  standard  conditions  including  completion  ofdue diligence and obtaining all necessary financing. The offer rep-resented  a  premium  of  approximately  67  percent  over  the  thencurrent market