Barbarians at the Gate

by Bryan Burrough

  On Thursday, October 13, Johnson tracked down Charlie Hugel at a hotel in Seoul, South Korea, where Hugel was peddling nuclear plants. Terrified someone would overhear the conversation on an unreliable overseas connection, Johnson tried to talk in a sort of code. “You remember the project we were looking at?” he asked.

  Yes, Hugel said. He thought he had talked Johnson out of pursuing an LBO a month before.

  “Well, Charlie, it’s beginning to look the other way. There may be a lot more meat to this thing than when I talked to you before. It’s something the board has to look at.”

  Hugel was stunned.

  “We’re going to go for it,” Johnson said. “It’s important that you get back and be there for this meeting.”

  Hugel searched his mind for something to explain Johnson’s turnabout. Bruce’s accident, maybe? He began to try and talk Johnson out of it, but stopped. The distance combined with Johnson’s resolve sealed his lips. Before hanging up, Johnson asked if Hugel would head the independent committee that would evaluate his offer. Hugel accepted.

  Johnson had assured Cohen that negotiating the management agreement would be no trouble. But Andy Sage had his own ideas. He was no fool: If Shearson wanted to do this deal, it would do it by Johnson’s rules. The Saturday session had already demonstrated that. Now Sage was prepared to drive that message home by taking a hard line on Johnson’s cut of the profits. “Andy,” Steve Goldstone said at one point, “Shearson will never agree to this stuff.”

  “Look,” Sage replied, “it’s already been agreed to in principle.”

  “I’m telling you,” Goldstone warned, “they won’t agree to it. They’d be giving away way too much.”

  Sage was adamant. “I’m telling you, this is the deal. They’ll take it.”

  Tom Hill and Jim Stern walked into Sage’s ambush at RJR Nabisco’s Manhattan offices Thursday morning. From the first words, the meeting was to be drastically different in tone than the gathering in Atlanta. Gone was the good ol’ boy, putting-green folksiness of Ross Johnson. In his place was an icy, bullying Andy Sage.

  In the dramatic setting of RJR Nabisco’s glass-walled New York boardroom, the Shearson bankers listened as Sage laid down the law. If Shearson wanted Johnson to go forward, Shearson would have only two of seven board seats; Johnson would take three, with the remainder going to a pair of independent directors. Johnson’s executives would put up no money for their stake in the business; Shearson would loan them the funds to buy their stock, which could be repaid through the use of incentive bonuses. Shearson would even pay Johnson’s taxes. In effect, management would take its cut for free. And, Sage repeated, management would settle for nothing less than 20 percent of the profits.

  Hill was speechless. He had expected tough negotiations, but nothing like this. He didn’t even know where to start objecting. When Hill and Stern attempted to reason with Sage, he made it clear Johnson stood ready to scrap the whole project, or, worse, take it to another investment bank.

  To Hill, Sage seemed to have no regard for the way LBOs were done. “Andy,” Hill argued, “we’re putting up all the money. We’re taking all the risk. Get off it.” Asking Shearson’s investors to settle for a straight 40 percent return was ludicrous; money managers placed their money with Shearson for the “upside” well beyond 40 percent. Johnson’s cut, Hill felt, shouldn’t top 10 percent.

  But Sage wouldn’t budge. For two days Hill and Stern slugged it out with the former Lehman banker. The negotiations grew emotional, until the three men began shouting at each other. Both Shearson bankers would later recall them as the toughest of their Wall Street careers. Throughout, they kept in touch with Cohen, who was attending a meeting of senior American Express executives in Tucson that week.

  “Sage is being totally unreasonable,” Stern told Cohen late Thursday. As the talks progressed, his judgments grew harsher. “Peter,” Stern said, “it’s a fucking nightmare.”

  More so than Hill, Jim Stern was amazed at Sage’s behavior. As a junior investment banker at Lehman in the seventies, he had worked with Sage on Standard Brands, and considered him an old friend. But now, during a heated exchange, Sage accused Stern of acting unprofessionally, an accusation that struck a nerve. “That’s it; I’m outta here,” Stern said, rising to leave. Sage quickly apologized.

  Part of his intransigence, Sage would later acknowledge, was his somewhat outdated understanding of how banking relationships worked. During Sage’s days on Wall Street, the client was the boss, the investment bank the hired help. But Shearson, which would invest hundreds of millions of dollars in an RJR Nabisco buyout, wasn’t hired help; it was a full partner. Sage failed to grasp the distinction. “They weren’t supplicants for business anymore; they were players,” he would later say.

  Sage was also driven by disdain. He didn’t feel Hill and Stern were up to the grand old Lehman standards, and he appeared to want to teach them a lesson about negotiations. “Andy,” Johnson said later, “felt these guys were jackasses. He just didn’t feel they were sharp at all.”

  Groping for allies against Sage, Hill called Goldstone. The Davis Polk lawyer remained skeptical of Sage’s demands and for the first time told Hill so. “Look,” Goldstone said, “if our clients convince you they’re entitled to this, great. But if there’s a way I can be helpful here, I’ll try.”

  Goldstone regretted the conversation when Hill, at a crucial point of the negotiations, mentioned to Sage that even Davis Polk supported Shearson’s position. Afterward Goldstone endured a thorough chewing out from an angry Sage. Who are you representing? Sage pointedly asked the lawyer. Goldstone stayed out of the fray after that.

  As the negotiations wore on, Hill, with Cohen’s approval, began to concede key points. Yes, Shearson would take just two board seats. Yes, Shearson would pay Johnson’s taxes. But handing management 20 percent of one of the country’s largest companies for free? Not only would Sage’s demands chew into Shearson’s profits, they would look awful to the public.

  “Andy, you’re setting yourself up for a big, big negative p.r. issue,” Hill warned. “Look at the raw dollars…. People are going to say management is ripping off the company.” Sage countered: We’ll worry about that when the time comes.

  Nothing Hill came up with worked. And at every turn, Sage threatened to walk. One part of Jim Stern wanted to call Sage’s bluff; another wanted to tell him to go screw himself. Stern gained a small compromise when Sage agreed to the idea of granting management extra stock for meeting certain performance incentives, or “bogeys.” There would be bogeys for completing a divestiture program, for targeted operating profits, for reaching certain rates of return.

  But the Shearson bankers couldn’t persuade Sage to back off his central demands, that those bogeys would march Johnson’s cut up to 20 percent. At one point, Stern, in an effort to convince Sage the agreement was too rich, ordered up a computer run showing returns on an LBO priced in the upper $80-a-share range. Sage scoffed at the premise. “You’re crazy,” Sage said. “No one would bid that.”

  After two days, Hill and Stern threw up their hands and appealed to Cohen. “Peter, you’re going to have to deal with Ross yourself,” Stern said, washing his hands of Sage. “This guy’s crazy. He’s impossible to deal with.”

  Sage, too, had had all he could stand of Shearson. That weekend Stern refused to return his calls. By Sunday Sage was ready to dump Shearson and call up another firm, probably Drexel. “Let’s get rid of these guys and go back to scratch,” he complained to Johnson, who was in Florida with Goldstone for the weekend.

  Johnson wasn’t worried. Every negotiation was a fight, he felt, and some fights were just worse than others. Anyway, Shearson wasn’t dealing from strength. In three days Johnson was to go before his board and make the pitch. He knew how badly Cohen wanted this deal and doubted Shearson would spike the entire effort over this one negotiation.

  “Oh, they’ll come around,” Johnson assured Sage. “If they don’t, there’s no
deal.”

  Charlie Hugel had a long flight back from Korea to think about the call from Johnson. Somewhere over the northern Pacific, he took out a pad and began jotting down things he had to do. He decided the special committee should have five members. Some had three, but Hugel had planned a trip to Moscow next month and didn’t want just two directors left behind. He wanted people who had been CEOs, who understood the way companies worked. He also wanted people who had the time, who wouldn’t be griping about missed dinners during the long hours of deliberations sure to come.

  Returning to his Connecticut home Sunday night, Hugel called Johnson, who had returned to Atlanta. They talked about whom to put on the special committee. In effect, Hugel was letting Johnson help name his own judges. They agreed on Marty Davis of Gulf + Western. Johnson’s old friend, named a director that spring, knew more about corporate restructurings than anyone on the board, having shaken up his own company repeatedly over the last five years. They agreed, too, on Bill Anderson, the former NCR chairman whom Johnson had blessed with an $80,000 consulting agreement. At least one of the directors, they agreed, should come from Winston-Salem. They decided on John Medlin. The most curious selection was John Macomber. After their earlier run-ins, Johnson didn’t trust the former Celanese chairman. But he and Hugel agreed it would be better to place Macomber on the committee than risk his stirring up trouble among other directors.

  “Another thing, Charlie,” Johnson said, reminded of something Goldstone had told him. “You’d better make sure the board has a lawyer. We want it to be like Sani-Flush ran through there.”

  Hugel had already put “lawyer” on his list. His selection of counsel would be crucial, for it would be up to the committee’s lawyer to make certain that the directors acted within the bounds of their complex legal and fiduciary duties. On Monday morning, Hugel began putting out help-wanted calls to some of New York’s most prestigious law firms. He grew alarmed when the first three said they had conflicts, a sure sign that outside banks or investment bankers were already working on the deal. Suddenly Hugel realized Johnson had gone further than he’d let on.

  Peter Atkins glared at the airport monitor in disgust. His American Airlines flight to Albuquerque was to be delayed indefinitely, the airline announcement said. Chicago’s O’Hare Airport was fogged in.

  Atkins picked up his briefcase and strode through the crowds at La Guardia to a pay phone. He needed to be in New Mexico by late afternoon for an important meeting. At forty-five, Atkins spent more time traveling than he liked. It wasn’t the jet lag that bothered him. His colleagues at Skadden, Arps, Slate, Meagher & Flom marveled at his constitution. When other lawyers tired in postmidnight negotiating sessions, the well-dressed Atkins “always seemed to look like the cover of GQ,” said one of his partners. “The rest of us would be hanging over lamp shades, but not Peter.” The son of an engineer born in the Flatbush section of Brooklyn, he was one of Wall Street’s top securities lawyers. Skadden Arps was the nation’s third-largest law firm and by far the most active in the budding field of takeover law.

  Atkins picked up a phone and called his secretary to make new reservations. There was, she said, a message from a Mr. Hugel. The only Hugel that Atkins knew, and only vaguely, was chairman of Combustion Engineering. He’d call him later, Atkins told himself.

  Atkins’s secretary made reservations aboard a United flight to Albuquerque via Denver’s Stapleton Airport. He ran for the gate. When he arrived, Atkins found this flight, too, was indefinitely delayed. Denver was socked in. As he cursed his luck, he heard his name paged. He walked over to a courtesy phone and called the operator.

  There was a message from a Mr. Hugel: “Tell him he’s going to miss the biggest deal ever.”

  Hyperbole, Atkins thought, his mind only on getting a flight to New Mexico. His secretary checked again for alternate flights and reserved him a seat on a Continental Airlines flight via Dallas.

  This time Atkins sprinted for the distant Continental gate. He arrived, out of breath but triumphant, just as the plane was boarding. As the line inched forward, Atkins took out the cellular phone he carried and dialed the insistent Mr. Hugel. Twenty minutes later Peter Atkins was in the air flying west, and Charlie Hugel had himself a lawyer.

  On Monday, just two days before the board gathering, Johnson began to grow nervous. Every hour he checked the stock price, half expecting to see it rise. He stood prepared to kill the entire deal if the stock so much as burped.

  He was already on edge because of Business Week’s latest “Inside Wall Street” column. “Smoke signals say: Buy RJR Nabisco,” the headline advised. Citing the huge gap between the company’s liquidation value and its stock price, the article quoted a money manager as saying, “RJR is a big restructuring or buyout play waiting to happen.” It went on to speculate: “Whispers have it that to avert a takeover, management plans to take the company private and then sell the tobacco unit.” Only half right, Johnson thought; food would be sold, as he and Benevento had decided, and tobacco, with its huge cash flows, would be kept. He tried to put the item out of his mind.

  The real shocker, though, came that afternoon a few minutes before six o’clock when news crossed the Dow Jones News Service that Philip Morris was launching a surprise $11 billion tender offer for Kraft. In vivid contrast to Johnson’s plans, Hamish Maxwell had chosen to expand his empire rather than dismantle it. His announcement prompted the usual flurry of calls from investment bankers wondering if Johnson might be interested in topping the bid for Kraft. By now their song was familiar. This is a once-in-a-lifetime opportunity…. Kraft is a great business…. You ought to take a look…. You ought to move fast.

  The only call Johnson noted came from Steve Waters of Morgan Stanley. Waters got through to Jim Welch, asking about Kraft. Before hanging up, he brought up the matter he’d mentioned to Welch just twelve days earlier. “Where are you on KKR, by the way?”

  “Well,” Welch said, “we’re thinking about it.”

  That day Johnson began calling directors, urging them to attend Wednesday night’s dinner. When board members asked why, Johnson was cagey. “It’s important,” was all he said. To those earmarked for the special committee, he asked whether they might be willing to serve as part of a group to study restructuring alternatives. Davis was grouchy but said he would do it. Macomber was agreeable. Hugel got through to Anderson, who accepted. Only John Medlin backed off. “I’m just too doggoned busy,” he told Hugel. Privately, he was uncomfortable with the potential conflict of interest of sitting on the committee while heading one of RJR Nabisco’s major banks. “Couldn’t you get somebody else?” Medlin asked. “What about Albert Butler?”

  The docile Butler was Hugel’s only choice. “Has Ross already talked to you about this?” he asked Butler later that day. “No,” Butler said, “but he did tell me a few weeks ago about the study of alternatives.”

  Butler agreed to join the committee. Just one thing, he said. A few weeks before, Johnson had graciously asked him to remain on the Reynolds Tobacco board past his seventieth birthday in May. “That doesn’t have anything to do with this, does it?” Butler asked.

  An alarm went off in Hugel’s mind. “How deep did he go into this?” he asked.

  It had been a definite offer, Butler said.

  “Let me get back to you.”

  Hugel hung up, miffed. He knew tobacco would be the surviving core of the post-LBO company, and he didn’t like the idea of Johnson’s offering a seat on its board to a current director. Directors were supposed to be neutral in this process, and that kind of offer might not look right. He called Johnson and told him so.

  “Albert got confused,” Johnson said. “At the time I was talking to him, I hadn’t even decided to go forward with this. What I meant was that I wanted him to go on the tobacco board” as it was.

  Hugel wasn’t so sure Butler was confused. “You know, Ross, you’ve got to be careful on this,” he warned. “This is bad stuff.”

  Johnson
then said something that Hugel would never forget. There would be, he noted, a couple of slots on the post-LBO board for independent directors. “It’s something I’d like you to consider, Charlie. You’ll have to make up your own mind, and we’ve got to get the deal done first. But we’ve worked so well together, I’d like you to come over. And as a director, you’d have the ability to get equity.” A piece of the action.

  “Well, how are you handling equity?” Hugel asked, suspicious.

  Johnson laid it out. Hugel could get the same sweet deal management would be getting. He would get a loan to buy stock from Shearson, Johnson said, then watch it grow like Topsy. A $5 million stake would probably be worth $20 million in five years.

  Hugel didn’t know what to say. Did Johnson know what he was saying? Did he realize he was offering, in essence, a bribe? Was he scheming or merely naive? With Johnson you never knew. “I can’t do that,” Hugel said hurriedly. “I’ll be chairman of the special committee.”

  Confused and more than a little worried, Hugel ended the conversation, suggesting Johnson call Butler to straighten out his board seat. Later he called Butler himself. “I wouldn’t say anything about this,” Hugel said, “to anyone.”

  Johnson was at home Monday night when Andy Sage called. Sage was beside himself. That day junior lawyers had tried to bang out a compromise on the management agreement. Shearson had just faxed him a draft copy, and it was all wrong. From Sage’s point of view, Shearson was reneging on several major points. “Come on over to the house,” Johnson said, “and we’ll get everyone together.”

  Johnson was irritated. With less than forty-eight hours to go until the meeting, it was silly to have crucial matters like this unresolved. He decided to gather the group and call Shearson and settle it, once and for all. Laurie Johnson started working the phones, tracking people down. Goldstone had returned to New York for the evening, but she reached his Harvard-trained assistant, George (“Gar”) Bason, Jr., finishing a Wendy’s hamburger in his hotel room. In Goldstone’s absence, the baby-faced thirty-four-year-old would be their negotiator. Horrigan was tracked down at the Waverly, dining with two tobacco executives. John Martin came from down the street. Benevento and Henderson were located having dinner together.