It is a late fall afternoon in 1996, and a shoeless Theodore J. Forstmann is stretched out in a leather chair aboard his luxurious private jet, kneading his brow with both hands in a futile attempt to dissipate a splitting headache. Forstmann flies a Gulfstream IV, the Rolls Royce of corporate aviation. But this is more than just a mogul's plaything. Forstmann, best known as a Wall Street dealmaker, is chairman of the company that made it: Gulfstream Aerospace Corp. Exhausted by two days of glad-handing at an aircraft convention in Orlando, Forstmann is racing home to New York to talk about Gulfstream on CNN at 6:10 p.m.
For a man who made his name buying and selling companies, Teddy Forstmann has of late given a convincing performance as a corporate manager. Virtually bankrupt in 1993, Gulfstream recently reported record earnings of $47 million for 1996, up 63% over the preceding year. But this isn't the half of Gulfstream's comeback story. Helped by new management and a revival in the market for corporate aircraft, the Savannah-based company has secured its renascent prosperity through the end of the century by amassing a $3 billion backlog of orders. At a time when even giant McDonnell Douglas Corp. found it was too small to go it alone, Gulfstream is thriving as the last independent plane maker in North America not named Boeing.
Most of the company's back orders are for a pricey new superplane, the Gulfstream V (G V). Capable of flying nonstop from New York to Tokyo, the G V is the world's first "ultra-long-distance" corporate jet. Four years in development at a cost of $800 million, the G V is just now reaching the marketplace. Gulfstream delivered the first G V to Seagram Co. on Dec. 31 and is cranking out the $35 million jets at the rate of two a month.
Gulfstream's revival is a source of great satisfaction for Forstmann, 57. "I don't have a talent for running companies, I have a talent for Gulfstream," says Forstmann, who, as the dominant partner of Forstmann Little & Co., helped invent the leveraged buyout. "Running Gulfstream has been the best experience of my business life. By far."
His feelings for Gulfstream might have been colored by humiliation instead of pride, for before saving the company, he and his Wall Street associates very nearly destroyed it. When Forstmann Little acquired Gulfstream in 1990 for $850 million, it applied its standard financing formula: a mountain of debt--$750 million--supported by a $100 million splinter of equity. Overleveraged and mismanaged, the jetmaker came within 90 days of defaulting on its bank debt in 1993. Even many of Forstmann's staunchest supporters urged him to cut his losses and sell the company. But he could not bring himself to take what would have amounted to a loss of at least $300 million. "It would have torn my insides out," he says now. More than Forstmann's strapping ego was at stake: His firm's ability to raise funds for future acquisitions would have been impaired, perhaps severely, by a big loss.
Instead of pulling his rip cord, Forstmann shouldered Gulfstream's chief executive aside and seized the controls himself--despite the fact that he had never actually run a company before. "My advice was: `Don't do it,"' recalls Robert S. Strauss, the well-connected Washington lawyer, who is a Gulfstream director. "`If Gulfstream goes down, your fingerprints will be all over the damn thing."'
STORM CLOUDS GATHER
For nearly 40 years, Gulfstream has been synonymous with corporate aviation. The original Gulfstream model, a twin-engine turbo-prop introduced by Grumman Aerospace in 1958, was the first jet designed expressly for business use. The G II, introduced in 1966, set an imposing new standard for performance and comfort as the first large-cabin business jet. The G III took to the skies in 1979 and was followed six years later by the G IV, maintaining Gulfstream's reign as the maker of the biggest, fastest--and costliest--corporate jets. From Hollywood to Wall Street, the Gulfstream jet is perhaps the ultimate status symbol in business.
Gulfstream achieved its remarkable record of market dominance despite recurring turbulence inside its own organization. In 1978, Grumman decided to get out of the business-jet field and sold the Gulfstream line for $52 million to Allen E. Paulson, an aerospace entrepreneur who combined the cast-off Grumman operation with two other small-plane manufacturers to form a new company: Gulfstream Aerospace.
In 1985, Paulson sold out to Chrysler Corp. for $637 million. At 68, Paulson stayed on to run the business for Chrysler. But four years later, the company again changed hands when Paulson joined forces with Forstmann Little to purchase Gulfstream for $850 million. Paulson continued as chairman and CEO, and held a 32% stake to Forstmann Little's 68%.
To Ted Forstmann, Gulfstream began as just another deal--a "conventional 1980s-style leveraged buyout," as he puts it now. "The idea was that we'd cut costs here and there, sell 10 more planes a year, and make a good return on investment," Forstmann says. "We thought it would be a piece of cake."
But Forstmann and his partners would eat crow, not cake, for they failed to recognize the deepening problems that were even then gnawing away at Gulfstream. Far from being a good candidate for a quick tune-up and a lucrative sale back to the public, Gulfstream was a capital-intensive, old-line enterprise in need of a sweeping and costly overhaul.
For starters, its long-standing disdain for cost containment was about to cause enormous problems. Gulfstream had always been an engineering-driven company in which product quality was valued far more than efficiency. And why not? For decades, the company had had no real competition. None, that is, until Canadair introduced the Challenger in 1980. To be sure, the Challenger wasn't quite the G III's equal--but it came close enough to make price a competitive issue.
Since Gulfstream made no attempt to reign in costs--or lower prices--Canadair continued to chip away at Gulfstream's market share even after the introduction of the G IV in 1985 restored Gulfstream's lead in performance. And things would soon get worse. In 1986, Canadair was acquired by Bombardier Inc., a Montreal-based snowmobile pioneer that had evolved into a world-class manufacturer of mass-transit equipment. To round out Canadair's product line, Bombardier acquired three manufacturers of smaller planes over the next few years: de Havilland, Learjet, and Short Brothers. Gulfstream, a one-product company that long had the market to itself, now faced a formidable competitor in Bombardier. The U.S. company also faced a mounting threat from Dassault Aviation of France, maker of the Falcon corporate jet.
Gulfstream's response was disorganized and superficial. Instead of lowering prices by cutting costs, the company handed out discounts and special deals of all sorts. This approach not only failed to win back sales but drained profit from the sales that Gulfstream did make.
In the second quarter of 1990, just weeks after Forstmann Little had completed its Gulfstream LBO, the U.S. economy fell into recession, eviscerating demand for corporate jets. By yearend, orders slipped to 21 from 29 in 1990. Forstmann's confidence in Allen Paulson's leadership dwindled along with orders. In late 1990, Paulson grudgingly agreed to help groom a successor.
However, Forstmann's choice of an heir apparent signaled that he still failed to grasp Gulfstream's fundamental problems. Instead of an operating manager capable of grappling with Gulfstream's deeply embedded cost problems, Forstmann hired a marketer, believing that a better sales effort could return the company to prosperity. He chose William C. Lowe, 50, who had played a key role at IBM in developing its personal computer and then had filled a senior marketing position at Xerox Corp. In May, 1991, Lowe was named president and chief operating officer of Gulfstream, with the understanding that he soon would replace Paulson.
"GIVE HIM HIS ROPE." Paulson might well have balked at surrendering his authority to anyone, but he quickly concluded that Lowe, a total aerospace neophyte, was a particularly unworthy successor. "Every time I turned around, Lowe was screwing up something," Paulson says now. "I talked to Teddy about it, but he said, `You've got to give him his rope."'
Lowe tells a far different story. He says that he offended Paulson by opposing his plans to develop a supersonic business jet, which Lowe considered completely unrealistic. "Frankly, the supersonic business jet was a figment of Allen's imagination," Lowe says today. Forstmann Little shared Lowe's skepticism, and Paulson's pet project died a quiet death. Paulson withdrew from active management well before the fall of 1992, when he sold his stock to Forstmann Little for $50 million. He officially stepped down as chairman and CEO, although he retained a seat on the board.
Lowe, instead, pushed for his own pet project: an ultra-long-distance business jet. It wasn't at all clear that there was a market for such a costly new plane, but Bombardier was already studying the feasibility of building a jet with 35% more range than the G IV. Lowe persuaded Forstmann Little that Gulfstream could not risk ceding its high-performance crown to Bombardier. In September, 1992, Gulfstream stole the march on its rival by committing itself to the G V.
With this decision, Forstmann Little abandoned its fading hopes for a quick and easy LBO profit. Developing the new plane would take at least four years and require sizable additional capital investment. The buyout firm had already been forced to cancel an offering to sell 17% of the company to the public earlier in the year when investors balked. The proposed sale had come on the heels of a nearly $50 million net loss in 1991 that pointed to another looming problem at Gulfstream: a debt burden that cost it $73 million in interest that year alone.
The failed offering embarrassed Forstmann and his partners but still did not chasten them into addressing Gulfstream's underlying cost and capital structure problems. To the contrary, outlays for administration, marketing, and research and development soared by 54% in 1992 as Lowe implemented an ambitious expansion plan. In the fall, Forstmann Little invested an additional $250 million of its investors' funds in Gulfstream, but not a penny was used to reduce debt. The buyout firm just substituted $200 million in bank loans with an equal amount of subordinated debt from its own coffers and used the remaining $50 million to buy out Paulson.
All along, Lowe justified the company's swelling expenses with optimistic sales forecasts, which Forstmann Little and Gulfstream's outside directors accepted without objection until December, 1992. At the year's final board meeting, Lowe conceded that orders were lagging badly but predicted that a last-minute sales burst would put the company right on target. As it turned out, G IV orders for the year reached 26, topping 1991's total by five but falling far short of projections.
Up to this point, Forstmann had failed to focus on Gulfstream, in part because he was distracted by outside activities, including serving as national co-chairman of George Bush's reelection campaign. But after the yearend board meeting, Forstmann belatedly began asserting himself.
As Forstmann earlier had lost confidence in Paulson, he now decided to supersede Lowe with a new hire. "I thought Lowe could sell planes for us," says Forstmann, "but I knew I had to find a proper operating guy." He found Fred A. Breidenbach, who joined Gulfstream in April, 1993, as president and chief operating officer. An intense but unassuming man, Breidenbach, now 46, had spent his entire career at General Electric Co., rising through the manufacturing ranks.
Within a few days of arriving in Savannah, Breidenbach's mood had swung from elation to trepidation. Based on his own analysis of Gulfstream's accounts, the new president concluded the company would run out of cash in 90 days, possibly sooner. "In reality, the situation was even worse than I thought," Breidenbach says now. "I don't think any of us realized until later how close Gulfstream came to collapse."
The alarm raised by Breidenbach shattered the last vestiges of Forstmann's complacency. In Breidenbach's view, Gulfstream's most pressing management need was for a chief financial officer. The position had been vacant since September, when Thomas P. Maletta resigned under pressure from Forstmann Little. Bill Lowe had brought in Maletta from Xerox. In July, Maletta--who declined to comment for this story--was belatedly replaced with a former colleague of Breidenbach: Chris A. Davis, 43, a 17-year veteran of GE.
"THERE WAS NO BUDGET." The same week that Davis started, Forstmann dispatched his youngest partner, 36-year-old Sandra J. Horbach, to Savannah with two lawyers and four accountants in tow. The New Yorkers installed themselves in Gulfstream's cave-like boardroom and worked their way through company records, contract by contract, invoice by invoice. What Horbach uncovered was an almost total absence of financial discipline in the middle ranks and a lack of accountability at the top. "There really was no budget," Horbach says. "They'd set one, but if people needed more money during the year, they'd spend it and change the forecast."
Lowe concedes that the company's financial controls were inadequate but insists that its fundamental problem was all the debt Forstmann Little had piled atop the balance sheet. "The company just was not funded properly, given the fact that we had decided to build a new airplane," Lowe says.
By mid-1993, Gulfstream was in violation of the covenants on $400 million in bank loans. Davis took the lead in persuading lenders to grant waivers to Gulfstream, averting a potentially ruinous default. Breidenbach, meanwhile, launched an emergency drive to slash operating costs. By the end of 1993, Gulfstream had shed 750 employees--16% of its labor force. Breidenbach also canceled Lowe's plans to add three new buildings to the Savannah production complex.
At the same time, Breidenbach lobbied suppliers for price concessions. Four big companies represented 70% of the total cost of materials for the G IV: BMW Rolls-Royce (the engine); Honeywell (the avionics); Textron (the wing); and Grumman (the tail). With each, Gulfstream had locked itself into long-term contracts under which it had to pay higher prices every year through 1999. Breidenbach packaged a set of dire G IV sales forecasts with a plea for price rollbacks under the title "Tin Cup" and began making the rounds.
In the end, all four suppliers, concluding it was in their own interest to help Gulfstream survive, agreed to reduce prices. "We were asked to make a bit of a leap of faith. But I did think that Fred and his people made a compelling case that if we didn't get the price of the G IV under control, sales were going to come way down," recalls Dick Wells, president of Textron Aerostructures.
In short order, Breidenbach's initiatives reduced operating costs by $50 million, or 13%. In Forstmann's view, this achievement was both Herculean and insufficient. By late 1993, Forstmann faced a Hobson's choice: either sell off Gulfstream at a huge loss or recapitalize the company at great expense to investors in Forstmann Little's subordinated debt fund, which by then had $450 million invested in Gulfstream.
At Forstmann's request, Horbach worked up the sort of formal study Forstmann Little does when weighing an acquisition. Her conclusion: "I felt strongly that the business was fixable." Some of Forstmann's investors disagreed, arguing that the time had come to cut their losses. But Horbach's view squared with Forstmann's deep-seated need to remove the Gulfstream stain seeping across his reputation.
Forstmann decided to convert all $450 million in subordinated debt to preferred stock, immediately eliminating $38 million a year in interest payments to Forstmann Little's investors. These investors--mainly large corporate pensions funds--had no say in the matter, since they had granted Forstmann Little sole discretion to manage their money. Still, Forstmann glumly made the rounds of his largest investors to ask for their support. He got it--along with a heavy dose of irritation and frustration. "I did feel some annoyance," says John H. Meyers, president of GE Investment Management Inc., one of Forstmann's largest and most loyal investors. "In this business, no one expects every investment to be good, but some of us felt Teddy had been content to rest on his laurels."
Stung by such criticism, Forstmann decided to step in and run the company himself. In November, 1993, Forstmann appropriated the chairmanship, replacing Lowe, who was invited to resign; the CEO slot was left vacant. Says Forstmann: "I agonized over becoming chairman but to be honest, I was never not going to do it."
Forstmann, who took no salary as chairman, says he has devoted about three-fourths of his work time to Gulfstream over the past three-plus years. Although he flew to Savannah on his G IV an average of once a week, he rarely even stayed overnight. Essentially, he piloted Gulfstream from the same Manhattan corner office where he ran Forstmann Little, conferring frequently by telephone with Breidenbach, Davis, and other senior managers in Savannah.
In early 1994, Forstmann cleared the decks at Gulfstream by taking a $204 million charge against 1993 earnings, resulting in a $275 million loss for the year. Half of that was a write-off for the balance of the company's capital investment in the G IV, which, in the judgment of the new management, was hurtling toward obsolescence. Not only had orders for future delivery declined, but seven completed planes, or "whitetails," were languishing unsold on the tarmac in Savannah. In fact, the G IV had a lot of remaining sales mileage. But as this critical transition year began, Forstmann and his colleagues were convinced that accelerating development of the G V was Gulfstream's only hope.
The G V was planned to have a maximum range of 6,500 nautical miles--54% more than the G IV--and feature a slightly roomier cabin than its predecessor. If the G V performed as designed, a busy CEO and as many as 18 underlings would be able to fly halfway around the world in 14 hours without refueling. But they would pay dearly for the privilege. Gulfstream initially priced the G V at $29.5 million, about $9 million more than the G IV. (These prices are for unpainted aircraft with unfurnished cabins; completion of the "green" plane adds $4 million to $5 million to the tab.)
By Gulfstream's reckoning, the potential market for the ultra-long-distance jet consisted of no more than 300 to 500 buyers worldwide. Merely to break even on the G V, the company would have to sell about 100 planes--a milestone surpassed by all the earlier Gulfstream models. However, for the first time, Gulfstream faced head-to-head competition in launching a new model. In late 1993, Bombardier had decided to fund the development of a rival ultra-long-distance model, the Global Express. As advertised, the Global Express was to match the G V in range yet feature a slightly larger cabin at a sticker price of $26 million.
To cut the development cost of the G V, the new regime outsourced the production of the wing and the tail. But rather than simply put the jobs out to bid, Breidenbach lifted a page from GE's playbook and persuaded Grumman Aerospace and Fokker Aviation to foot part of the development costs in exchange for a cut of future G V revenues. Together, these two revenue-sharing deals cut Gulfstream's up-front investment in the G V by $180 million, or 23%.
Meanwhile, to rev up sales and marketing, Forstmann hired William W. Boisture, a deceptively folksy Louisianian who had run the British Aerospace Corp. division that markets the Hawker line of jets. Boisture, now 51, quickly zeroed in on the G V's biggest problem: competition from the Global Express. Boisture designed a new commission system that penalized salespeople for orders lost to Canadair or Dassault while paying a premium for a customer taken from a rival.
Forstmann himself attended to Gulfstream's advertising, giving it a combative new tone within weeks of assuming the chairmanship. The first ad he approved (and largely wrote) depicted the Global Express as a paper plane with a crumpled nose. "Canadair will still be making promises when we're making airplanes," sneered the ad, which included an offer of a $250,000 discount on a G V to anyone who canceled a Global Express order. In later ads, Gulfstream stridently extolled itself as an American icon doing battle against "government-subsidized foreign entities."
Canadair's executives deride the ads as wrong-headed. Gulfstream's "Buy American [campaign] seems to run totally counter to all of the internal policies of our target customers," argues Michael Graff, president of Bombardier Business Aircraft. U.S.-based multinationals "are thinking of themselves as less and less American and more global."
But the advertising battle was a sideshow to the trench warfare that resulted as the Gulfstream and Canadair sales forces fanned out around the world seeking advance orders from every corporation, government agency, and high-rolling entrepreneur with $35 million to spend. To the untutored eye, the G V and Global Express appear quite similar (table); they even use the same BMW Rolls-Royce engine. But the rival sales forces have barraged prospects with endless technical claims and counterclaims nonetheless. The senior executive of one American company that recently placed a G V order groans when asked if he expected Canadair to continue pursuing him. "Oh God, yes," he says. "We only need one new plane, but they seem more determined than ever to sell us theirs."
Forstmann threw himself into the sales fray with abandon, hopping in his G IV and flying halfway around the world, if necessary, to clinch a sale. He was having lunch with his mother one weekend in 1994 when she surprised him with a a doleful question: "Teddy, aren't you doing well?" Forstmann assured her all was fine. "Why are you going around selling planes then?" she asked. Says Forstmann: "I know some people consider it degrading for me to be selling planes. But I do not feel degraded at all, not one tiny percentage point."
Forstmann, who long has prided himself on assembling high-powered boards, enlisted Gulfstream's directors in his sales drive. Every month, management circulates a list of current prospects, inviting directors to pitch in with a phone call or personal visit. In addition to Forstmann, the board includes such world-class networkers as Robert Strauss, George P. Schultz, and retired General Colin L. Powell.
SALESMEN WITH CLOUT. In 19TK, Strauss made a well-timed call to Walter Mondale, then U.S. ambassador to Japan, that helped Gulfstream ace out Bombardier and Dassault, and land a big contract with the Japanese air force, which has purchased five G IVs to date and eventually may buy as many as four more. "Have I been active [selling planes]?" Strauss asks rhetorically. "Boy, is that an understatement."
By the end of 1994, it was evident that Gulfstream was on its way back. It had rebounded from its mega-loss in 1993 to post a $24 million net profit. Buoyed in part by a providentially timed updraft in the choppy market for corporate aircraft, G IV sales had rebounded, and 41 firm orders for the G V were in hand, each secured by a nonrefundable $2 million deposit. In early 1995, Forstmann dealt Canadair what he hoped would be a decisive blow: He hired away its top executive, Bryan T. Moss. Now 57, Moss is one of the world's most accomplished airplane sellers, though he is so silky and cerebral in manner that he seems more statesman than salesman.
Moss's sudden departure hit Bombardier right between the eyes. He left "with no notice," growls a spokesperson for Bombardier. Instead of the party he requested, Bombardier's going away present was a lawsuit filed in U.S. District Court to prevent him from taking confidential information to Gulfstream. Bombardier eventually withdrew its suit, but the bitterness lingers. "They made it very unpleasant for me," Moss says. For their part, senior Bombardier executives decline to comment on the record. Privately, their response to Moss's departure can be summarized in a single epithet: traitor.
With Moss's help, Gulfstream has garnered 70 orders for the G V--a figure reported in the company's Securities & Exchange Commission filings. Although some of those customers might walk away from their $2 million deposits in a severe recession or in the face of a great deal from Bombardier, it's a strong start. Bombardier hasn't revealed orders for Global Express. "Our only comment now is that we are approaching 60 orders," says John Lawson, president of Bombardier's business aircraft division. Prove it, scoff Gulfstream executives. Whatever the differential, Gulfstream clearly has taken the first round in a contest that is still in its early stages.
The struggle entered a critical new phase on Dec. 13, when the Federal Aviation Administration awarded provisional certification to the G V after 13 months of testing. This allowed Gulfstream to begin "delivering" green aircraft to customers for interior customization. The G V is expected to be awarded full certification at an FAA meeting on Apr. 11. By Bombardier's own estimate, Canadian authorities are not expected to certify the Global Express for at least another year, putting the company at a continuing disadvantage. "The coming year is going to be a nightmare for Bombardier," says Moss.
Last October, Forstmann Little took Gulfstream public, raising $1 billion in one of the largest IPOs of 1996. But only about $100 million of the proceeds went to Gulfstream itself; the balance was pocketed by Forstmann Little and Gulfstream executives. At about the same time, Gulfstream borrowed $450 million to redeem the preferred stock held by Forstmann Little's investors. The firm still owns 42.4% of Gulfstream, now worth about $720 million.
According to Forstmann Little, its subordinated debt investors ended up earning 22% a year on their investment in Gulfstream, a bit above the firm's 20% average return, while its equity investors have made 40% a year on their equity--well under Forstmann Little's historical average but a handsome return by almost any other standard.
Bombardier tried to turn the IPO to its advantage. Laurent Beaudoin, Bombardier's chairman and CEO, contends that Forstmann Little has "taken an investment-banker-type approach" toward Gulfstream. That is, its aim has not been to fortify Gulfstream for the long haul, but to "see how fast they can turn it around to sell it to the public."
This assertion infuriates Forstmann, who insists that he and his partners are in no hurry to cash out their remaining stake in Gulfstream. Why would they, with the jetmaker's stock trading a bit under the IPO price of $23 a share? The stock has languished even though Wall Street projects earnings this year at about $190 million, quadruple 1996 levels, as it cranks up G V and G IV deliveries. "The promise is certainly there," says Byron Callan, Merrill Lynch & Co.'s aerospace analyst, "but given this company's turbulent past, people want to see how 1997 actually plays out before they get excited."
In some ways, Gulfstream remains a work in progress. Over the past three years, the company has cut the average assembly time of the G IV from 67 to less than 30 days, and yet Breidenbach still sees considerable room for improvement. The company also must master the formidable technical challenges of simultaneously producing two different models on the same factory floor. And sooner or later, Forstmann must solve the chronic problem of succession and fill Gulfstream's long-vacant CEO slot.
After 3-1/2 years, Forstmann is less enamored of his management post than he once was. And though there's no doubt his passion for the company is real, he remains at heart an investor, not an operator. His mission at Gulfstream was twofold: to pilot its return to health and then polish it up for a profitable sale. Step one is done; step two is just a matter of time.