Whose Company is this Anyway?

By Kevin McManus

The family owners of Challenge Machinery almost lost control to outsiders. They won't let it happen again.

"Don't get any fancy ideas about trying to make this a family company again." That's the sort of thing that an outside director really should not say to a proud descendant of the founder of a family business, especially when the family still owns the bulk of the stock. The warning was made almost four years ago to Sara (Sally) Rizzolo, the great-granddaughter of the founder of Challenge Machinery Co. in Grand Haven, Michigan. To Sally and other members of the family, those were fighting words.

Challenge Machinery, a maker of graphic-arts equipment such as paper drills and collators with $28 million in annual sales and 230 employees, was then run by a nonfamily member named John Randall, who was about to retire as president. Randall had managed the company astutely and profitably for nine years. He seemed to be grooming Sally's nephew, James Gould, 40, the firm's vice-president of marketing, as his successor.

But Jim and Sally were the only family members on the seven-member board, and four of the nonfamily members had other ideas. They did not consider Challenge a family company, even though two-thirds of the stock of the publicly held company was in the hands of the descendants of founder James L. Lee. These outsiders decided to pay a headhunter to find a new president. Randall, the fifth nonfamily director, declared himself neutral in the matter. Jim and Sally objected to the recruitment plan but were overruled.

What aunt and nephew and Jim's sister, Sara Gould, did next is a model of how family members can deal with a revolt by outside directors and reassert control of the business. They not only came up with a "fancy idea" — a legal ploy — that enabled them to oust the four rebel directors and install Jim as president, but they mobilized the 30 or so family shareholders to set up a formal body to monitor the business's progress. The Lee Family Business Council, as it is called, now meets regularly to discuss a variety of issues related to ownership of Challenge. Thanks to the events of 1986 and 1987, family discourse has become clearer and more routine, and the members have a renewed sense of participation in the business.

"In Challenge, as in any other family company, the rewards of ownership cannot be satisfied or even calculated in terms of dividends," says Barbara Hollander, a consultant from Pittsburgh who advised the family on setting up its council. "The psychic benefits of family ownership are extremely important. Therefore, creating an informed shareholder group that functions as an ownership team is essential in a company like Challenge — if for no other reason, because of the sheer number of stockholders."

The company was established, in Chicago as Shniedewend & Lee, a producer of electrotype cuts for letterpress printing. Cofounders Paul Shniedewend and James Lee had barely incorporated when the great fire of 1871 wiped out their first plant. Lee and a foundry foreman saved the business by loading boxes of master cuts and important books and papers onto a horse-drawn wagon and driving it to safety through knee-deep water along the banks of Lake Michigan.

Two weeks after the blaze, the partners set up shop in a barn. In 1883 the firm moved into larger quarters and opened a retail outlet that sold printing machines, printers' supplies, and foundry type. The company went bankrupt in the financial crash of 1893 and Lee bought out his partner. According to a company history, "The Lee family reorganized under the name of The Challenge Machinery Company, perhaps in recognition of the firm's ability to survive adversity."

By 1903 the company had outgrown yet another plant. J. Edgar Lee, who had taken over from his father, decided to move the company across the lake, to Muskegon, Michigan. At the time, a ferry ran between Chicago and Grand Haven, a little town south of Muskegon. On a scouting trip, Lee had just disembarked when he was approached by some Grand Haven officials who were eager to attract manufacturers to their town. They offered Lee tax breaks and free land. He accepted, and a plant was erected on Fulton Street, a few miles east of the lake, where it still stands.

Throughout the 1950s Challenge remained a small manufacturer and was elbowed out of the printing-press business by the likes of A.B. Dick and Multigraphics when offset technology replaced the letterpress process. But it found solid footing in a few peripheral products — paper cutters, folders, collators, and drills — and grew strong enough to withstand the repeated challenges of foreign producers, which have been hard-headed competitors in the United States for three decades. Challenge also earned a reputation in the metalworking industry as a leading maker of precision products such as angle plates, straight edges, layout plates, and V-blocks.

Through the 1940s leadership of the company had passed along a straight paternal line: from James Lee to his son J. Edgar, to his son James Wesley Lee. The line was cut short in the fourth generation when James Wesley Lee's only son, James, was killed in World War II. His son-in-law, Robert C. Gould, who had worked his way up through the Challenge hierarchy, was named president in 1958.

James Gould, Robert's eldest son, worked summers for the company through his high school years. Jim earned a bachelor's degree in physics at Alma College, a small Presbyterian liberal arts school in Alma, Michigan. After graduation, he took a succession of high school teaching jobs in Tennessee and Massachusetts.

"While I was in Massachusetts, my father had an opening for a regional sales representative, and he asked me if I wanted the job," Jim recalls. "I said, 'Great.' After six years away, I was now ready to come back. I had proven — to myself perhaps — that I did not have to rely on the family business. But I was always interested in it. So I came back in the summer of 1974 after the school year was over."

Before taking to the road as a salesman, Jim spent a few months at headquarters learning the ropes. "It would have been a better training program if I could have actually turned a few wrenches, but the union situation didn't allow that," he says. "But I did observe the work in the plant, and then I spent some time in the office going through a sales training program. Finally, I started to take phone calls."

As it happened, Jim joined Challenge just in time to attend Print '74, a colossal trade show held every five years by the graphic-arts industry. "Ten straight days on your feet," he recalls. "That was my initiation with the dealers and end users. It was my baptism under fire. After that, I went out on the road a couple of times with our sales manager. Then they let me go out on my own — sink or swim."

Just as Jim began to master swimming, his dad climbed out of the water. In 1977 his parents were divorced, and his father left the company. The board of directors chose Randall, a professional manager who was on the board, as CEO. At the time, Randall was in the materials-handling industry. He had profit-and-loss responsibility for a division of a company larger than Challenge.

Over the next decade, Randall never told Jim he was grooming him for the presidency, but some of his actions strongly implied it. Jim's assignments from 1974 through 1986 were regional sales manager, employee relations manager, manufacturing manager, and vice-president of marketing. "This was not a preset path," to the CEO's job, Jim admits. "It was not a case where someone else was asked to leave. There were circumstances in each case where Mr. Randall felt I could do a very good job at the time of an opening."

Meanwhile, Jim had given two years of his weekends to earning an MBA at the University of Notre Dame. Both he and Sally Rizzolo knew he was ready to run the business.

While it was unclear how Randall envisioned Jim's future (he was unwilling to be interviewed for this article), there was no doubt about his view of Challenge as a corporate entity: He and the other nonfamily board members considered it a public company. "Mr. Randall had the idea in the early 1980s of seeing if some stockbrokers would be interested in making a market in the security," Jim says. "And he did line up three brokers to do that — two in Grand Rapids, Michigan, and one in California."

At least two-thirds of the stock always remained in the hands of the family, so there was no question about Challenge's ownership. However, for the first time in the company's history, the majority of board seats were occupied by outside directors. The balance actually shifted away from the family in 1980, when Randall asked Ed Dahlstrom, a former employee and family confidant, not to stand for reelection. But it wasn't until 1986, when the outside directors decided to mount a search for Randall's successor, that the board's composition made an impact on the family.

As the sole family member employed by Challenge, Jim felt the impact most acutely. But Aunt Sally and his sister Sara both shared his concern over who would succeed Randall.

Sara Gould, now 38, is a lifelong Challenge stockholder, but she has never wanted to work for the family business. She is director of the economic development project for the Ms. Foundation for Women in New York City. "I do have a great interest in it," Sara says, "but all of my work experience has been in the nonprofit sector, and so I've preferred to find other ways to be involved in the company." The succession issue gave her a good opportunity. "I felt very strongly — and knew that many other members of the family felt strongly — that Jim was old enough and experienced enough and was the right person to become the president," she says.

Aunt Sally expressed the family's position directly to her fellow directors: Jim should succeed Randall. When the board said no, Jim and Sara worked out a solution to the problem during a series of meetings, most of which included other family stockholders as well as a family attorney. Their "fancy idea" was a voting trust. "We asked each family member in turn if they would be willing to [sign over their voting rights for a year] and got the family to agree to it," says Jim. Not all of the two dozen stockholders they consulted relinquished their rights, he notes; a few approved of the idea but chose to hang onto their votes. Nevertheless, the trust contained more than the 50.1 percent it needed to be effective.

Four outsiders resigned from the board (none were available to comment), leaving Randall, Jim, and Sally. Jim was appointed president effective April 1987. Randall retired then, but kept his board seat until January 1, 1988.

Looking back on the episode, Jim says, charitably, "The majority of the board of directors didn't feel comfortable simply 'giving the job away.' They were more inclined to conduct a nationwide search." Dressed in off-duty attire for the interview in his office — rugby shirt, jeans, and loafers — Jim speaks carefully, weighing every word. "The family felt that, with majority ownership, their view on this question should prevail," he says. "So in order to do that, we asked the family members to sign over an irrevocable proxy to one person. It could have been any of us, but it happened to be me. For one year I would vote more than 50 percent of the stock in any way I wished. And we simply asked the directors if they would resign. They couldn't prevail and so they agreed." The episode gave the family members what might be called a healthy scare. "We only learn when we have troubles in our lives," Jim says.

What the family learned is to pay closer attention to the business and to improve communication. In 1988, at Hollander's suggestion, the 30 or so family shareholders of Challenge were invited to meet to establish a formal family council. Then, in August 1989, they drafted a family creed:

"We, as members of the Breese, Craig, Gould, Martin, and Rizzolo families, are the descendants of James L. Lee, who founded the Challenge Machinery Company in the year 1870. We have organized the Lee Family Business Council for the purpose of passing on our belief and pride in the strength of Challenge to our descendants.

"Our intent is to perpetuate stock ownership within the family, encourage the development of family leadership and management, and communicate, educate, and serve as a bridge between branches of the family and between family and company. We meet regularly in the company's home community of Grand Haven, Michigan.

"We believe in contributing to the present and future of Challenge by fostering family participation. We wish to help insure that Challenge maintains the respect of its employees, customers, competitors, and the community by ever strengthening its reputation as an ethically operated manufacturer of quality graphic arts and other products that are sold worldwide."

At the moment, development of future family management is the council's main preoccupation, and for good reason. Jim and his wife, Karen, are the only family members now working at Challenge (their two kids are in their early teens), and no relatives have shown interest in joining. The council members are very concerned about this issue, but at least they are talking about possible solutions, which is more than they were doing a few years ago.

Recently, a core group of nine family representatives assembled in Chicago on a weekend when Jim was in town for a trade show. Jim's sister Sara kept the minutes. Their cousin Jim Breese, a truck driver from Sacramento who came with his wife, Karen, chaired the meeting. Aunt Sally drove up from Moline, Illinois, with her son, Richard Rizzolo, and his wife, Carolyn. Sandy Craig came from Toledo. Ed Martin, a cousin who is a Challenge board member, flew in from Salem, Oregon.

These descendants of James L. Lee are clearly a thrifty lot: Their gathering was held in a second-class hotel near the Loop. There was a coffee urn in the sparsely furnished meeting room, but no food. One wall was actually a folding partition, and noises from a gathering next door interrupted the family council several times. Nobody seemed to mind.

The issue of finding a family member to succeed Jim was discussed, but the group came no closer than before to a solution. They spent a good deal of time holding a "give-and-get" session (suggested by Barbara Hollander) during which each person expressed what he expected to get from the family council, and what he could contribute to it. Basically, they all said their main interest was getting to know the family better.

After that exercise, the core group discussed what they could do to improve the full family council meetings. "Have more breaks," someone suggested seriously. Someone else advised, "Have the meetings end when they say they're going to end." A third voice added, "Make it easier for people to contribute their ideas." Another item on the agenda was a pair of projects involving photo exhibits in the Challenge Machinery office. The core group thought it would be a great idea to have a "presidents' wall" and a "family wall." They agreed to bring batches of family photos to the next core group meeting.

Finally, the group took up the matter of the company's 120th anniversary, which will be celebrated this summer. The most appropriate type of party, they decided, was a picnic including both family members and Challenge's employees. Jim said that sounded just fine. (Some pointers on establishing a family council, from three family business consultants, follow this article.)

Although Hollander had not advised the family on the voting trust, she was aware of the conflict between them and the outside directors. In her opinion, the family did not err in allowing outsiders to gain control of the board. If they made any mistake, she says, it was in failing to make clear to Randall — at the start of his presidency — that "this indeed is a family company and we wish it in the future to be a family company."

At present the Challenge board consists of four family members — Jim, Aunt Sally, Sara, and Edgar Martin, a commercial loan officer at a bank in Oregon — and three outsiders: Bill Mogren, vice-president for marketing and product development for the HyLift division of Muskegon-based SPX Corp.; Donald Freeman, a retired corporate CEO from Grand Rapids; and Gordon Ritter, vice-president of a Grand Haven family company called Automatic Spring Products.

Despite the challenge from nonfamily directors a few years ago, Hollander believes it is critically important for a family business to have outside directors on its board. "They can bring in fresh ideas and objectivity, and often can defuse potential conflict among family members," she says.

The family and the business have survived the challenge. Earnings, which traditionally have been well under 2 percent of Challenge's revenues, have risen slightly since Jim became president. That's due partly to "the spadework of the previous management," says Robert Vander Wal, a stockbroker in Grand Rapids who makes a market in Challenge's stock. But he does give Jim high marks for keeping a steady hand, and for his acquisition in 1989 of West German folding-machine manufacturer Herzog & Heymann GmbH. "This deal produces synergies on both sides of the ocean," he says.

The cautious Jim, however, adopts a wait-and-see attitude about the $2.3 million purchase. "We're just coming to the end of the first quarter of owning them, and all payments are on schedule," he says. "So far, so good." He also notes that "it's not a turnaround situation — we're looking for them to keep on doing what they have been doing."

Does Jim worry about finding a family member to succeed him?

"Yes, I do" he says. "We have gotten to this point, and hopefully we can continue in this direction. But if I can't find someone within the family, we would end up turning it over to an outsider, a professional manager. That can work. It's simply a matter of being sure there's no vacuum of power, being sure that it's understood where the decisions are made. If there is a vacuum of power, then it can turn into a very bad situation."

—K.M.

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Issue: 
February 1990

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