Twice Fooled
from
January/February 2002
by David Moon
Fool me once, shame on you. Fool me twice, shame on me.
The old adage applies all too aptly to any shareholders who’ve stuck with Phar-Mor Inc., the drugstore chain that recently filed its second bankruptcy-reorganization plan in nine years. The company has been so battered by shady behavior over that period that it’s tough to feel sympathy for its investors.
Phar-Mor’s troubles first came to light in 1992, when president and COO Michael Monus was convicted of embezzlement, fraud, theft, and filing false income tax returns. The company soon sought Chapter 11 protection and put the blame squarely on Monus, who is now serving an 11-year prison sentence. Shareholders spread the blame, suing auditors Coopers & Lybrand Ltd. for negligence and claiming more than $1 billion in damages. The audit firm settled for an undisclosed amount.
Enter Robert Haft, formerly president of the Dart Group, a chain of discount stores. He had just lost a power struggle with his father, Dart chairman Herbert Haft, but had picked up $34 million in a wrongful-dismissal suit. The younger Haft led a group of investors—including Avatex Inc., the successor company to Phar-Mor’s largest unsecured creditor—that bought 31% of Phar-Mor’s shares for $32 million, $10 million of it Haft’s. He became CEO in 1995, and Phar-Mor turned a profit in 1996. The next year Avatex bought Haft out and sent him on his way with a nifty severance package, including $5 million in cash.
Avatex named Abbey Butler and Melvin Estrin co-CEOs and co-chairmen of the Phar-Mor board, but this was hardly a meeting of strangers. Both men had been inside directors of FoxMeyer Drug Co., Avatex’s corporate predecessor, and outside directors of Ben Franklin Retail Stores Inc. And both had experience in Chapter 11 proceedings; FoxMeyer and Ben Franklin had each filed for bankruptcy protection in 1996. Daniel H. Levy, who joined the Phar-Mor board in 1997, brought further Chapter 11 experience. He’d been CEO of Best Products Inc., a Richmond, Virginia, retailer with 169 stores in 23 states, when it filed for bankruptcy protection in 1996.
Under Butler and Estrin, Phar-Mor invested $4 million in Vitamins.com, an online drug seller founded by Phar-Mor’s previous CEO, Robert Haft. Phar-Mor also put more than $10 million in Avatex, and eventually owned 36% of the company that was still its largest shareholder. Who were the co-CEOs and co-chairmen of Avatex? Why, Estrin and Butler. All this is completely legal, but it didn’t make investment sense. For one thing, Phar-Mor bought those shares over a two-year period during which Avatex lost $364 million. Avatex’s shares haven’t done much better since. They’ve fallen from $4.68 when Butler and Estrin took charge to a recent 8 cents.
From 1997 to 1999, Phar-Mor bought secretarial services and office support from companies owned or controlled by Butler and Estrin. And in 1998, for example, it put $1.25 million of its dwindling resources into HPD Holdings Corp., which was controlled by HPD Partners, where Butler and Estrin were limited partners. Between 1997 and 2000, Phar-Mor’s cash shrank from $79.8 million to $16.7 million. Its net losses grew from $2.3 million to $11 million. The stock, which stood at $11.75 in March 1998, has been positively sick. Its high for 2001, back in February, was about $1.50. In November it was worth just a few pennies.
Estrin and Butler, incidentally, don’t seem to think much of Youngstown, Ohio, Phar-Mor’s hometown. At the December 10, 1999, annual meeting, Butler noted that he and Estrin visited “as few times as possible” and described Youngstown as “not my kind of town.”
Sounds like a prescription for bankruptcy, right? Sure enough, in September 2001 Phar-Mor filed again for Chapter 11 protection. This time it blamed its problems on the slowing economy and increased competition. No mention was made of human failings.
David Moon is president of Moon Capital Management.
