My co-founder, Larry Flax, and I founded California Pizza Kitchen (CPK) and initially controlled it as a privately held company. As we prepared to take the company public, PepsiCo acquired a majority equity interest under a unique governance structure that gave us equal board representation and significant influence despite our minority ownership position. When PepsiCo later exited the restaurant business, our approval was required to approve the sale of CPK to private equity firm Bruckmann Rosser Sherrill & Co.
The company subsequently went public, with Larry and I serving as co-chairmen, but with a CEO chosen by the private equity firm. After a period of disappointing performance and a sharp decline in the stock price, the board asked us to return as co-CEOs and we led the company for the next eight years, including through the Great Recession. In 2011, following the company’s recovery, the board sold CPK to another private equity firm. Despite expectations that we would continue in leadership roles, we were not retained.
Thus, we experienced the same company as founders, controlling owners, minority owners with governance rights, directors of a public company, operating CEOs and, finally, observers with no seat at the table. Those experiences were supplemented by my 23 years on the board of Callaway Golf, where I viewed many governance issues from an entirely different perspective. Thus, I’ve certainly had the opportunity to see the consequences of governance decisions from many vantage points.
With that background in mind, I can offer the perspective of a founder and director who was in favor of the decision to go public, but ultimately lost control of the destiny of the company.
The pressures on founders and directors change dramatically once a company enters the public markets. The pressures not only exacerbate once a company chooses to consider strategic alternatives, but different constituencies come into play that inevitably affect the outcome.
When Larry and I built CPK, we measured success through customer satisfaction, employee engagement, restaurant performance and long-term growth. We thought about the next five years, not the next quarter.
As a public company, we acquired a new scorecard: the stock price. The stock market delivers a daily verdict on management, whether deserved or not. The inevitable, but less discussed result is that employee morale tracks the stock price, an element that does not exist in a private company.
While we rode the high for many years based on our financial performance, CPK’s stock price declined dramatically during the Great Recession, despite our efforts to navigate the company through one of the most difficult economic environments in modern history.
Thus, the reality was that, by being public, the declining valuation was not only public information, but it was also beyond our control. Morale plummeted with the stock price.
Lesson one: A public company valuation is a daily scorecard. Often, forces beyond your control dictate the outcome, irrespective of the company’s financial performance. The internal fallout can be distracting and difficult to overcome.
The second lesson that we learned may not be as obvious but was even more consequential. Ironically, success (or lack of success) often creates pressures that ultimately lead boards to consider strategic alternatives. Either way, investment bankers begin calling. Analysts identify hidden value. Investors suggest that a sale, merger, recapitalization or other transaction might unlock additional value.
At first, these discussions seem theoretical. Yet, while the decision to explore strategic alternatives is often viewed as reversible, in reality, once the process begins, it develops a momentum of its own.
Potential buyers are contacted. Expectations are created. Lawyers and financial advisors are retained and become deeply involved. Special committees are formed. Every significant communication is documented. I equate it to a snowball starting to roll downhill.
At that point, perhaps for the first time in the company’s history, the interests of founders and independent directors may begin to diverge.
For years, both groups may have been pursuing the same objective: building long-term value. But once strategic alternatives are formally explored, the questions each group is asking can become very different.
Founders naturally focus on what comes after the transaction: the culture, employees, customers and long-term future of the company they spent years building. Directors may find themselves legally compelled to focus on a different objective: achieving the best available short-term outcome for shareholders.
Neither perspective is wrong. But founders should understand that once the process begins, they may no longer be the primary constituency driving the discussion and that their role as directors imposes an obligation that forecloses personal considerations.
Our lesson came from CPK’s transition from a public company to private ownership. While Larry and I devoted enormous attention to fulfilling our responsibilities as directors and helping to achieve an attractive outcome for shareholders, we truly weren’t prepared for the internal forces imposed by the process itself that made a sale of the company an inevitable result.
The sale process itself was exhaustive and exhausting. With approximately 20 potential private equity buyers invading our data room (or “war” room) for nearly two years, our senior team was highly distracted from their daily required activities.
When firmer offers arrived, all well below the earlier indicated range, the lawyers and investment bankers’ advice to the board inevitably sealed the fate. Announce the unsuccessful end of the process, the stock price will fall and the company will be sued for not achieving a satisfactory result for stockholders. Suggestions arise that it’s a better course to seek a higher price and sell at any satisfactory level. Of course, the company will still inevitably be sued for not achieving a sufficient price (irrespective of the validity of the claim) but having run a correct process, that will ordinarily be resolved by settlement as a matter of course.
Woven into that advice to the board is the implication that failure to complete the transaction could result in personal liability by the directors. At that point, the snowball cannot be stopped.
Larry and I made the mistake of trying to “stay in the room” by avoiding any potential conflict of interest, which could be implicated if we discussed our post-transaction roles with the buyers. Ultimately, assiduously following the rules, we accepted the representations that our decades of experience, institutional knowledge and commitment to the company would naturally translate into meaningful roles after the acquisition.
They did not.
When the transaction closed, the new owners determined that our involvement was no longer necessary. Overnight, we went from leading the company to watching from the sidelines.
With the benefit of hindsight, that was a mistake. We concentrated on getting the transaction completed and assumed the rest would work itself out.
Had we focused earlier on defining, disclosing and formalizing our post-transaction roles, the outcome might have been different. Instead, the closing became the beginning of a new chapter, and we were no longer writing it.
What followed is public record: The company attempted to reinvent itself rather than build upon the brand identity that had made it successful. Many of the people who embodied the company’s culture and institutional knowledge departed. Development slowed. Debt increased.
Relationships that had fueled growth changed. Prior to the pandemic, the business was already under significant pressure and COVID-19 ultimately pushed it into bankruptcy, followed by five years of control by creditors and caretaker management. Fortunately, the company has recently been acquired by new owners. They will have to overcome years of neglect but are committed to its future.
When you build a successful company, your attention naturally focuses on growth, valuation, financing and, ultimately, liquidity. Those are important milestones. But they are not the end of the journey. Going public changes the metrics by which success is measured. Exploring strategic alternatives changes the questions directors are required to ask. And selling the company changes who gets to answer them.
From a founder’s perspective, the most important question is not whether a transaction can be completed. It is whether the founders truly understand what they are giving up when it is.