Discussion Case Study: Better Living Patio Rooms

BAB07 2 Revised Mar ch 10, 2004 Arthur M. Blank Center Dan D’Heilly prepared this case under the supervision of Professor William Byg rave, Babson College, as a basis for class discussion rather than to illustrate either effective or ineffective handling of an admi nistrative situation. Funding provided by the Ewing Marion Kauffman Foundation.

Copyright © by Babson College 2000 and licensed for publication to Harvard Business School Publishing. To order copies or request permission to reproduce materials, call (800) 545- 7685 or write Harvard Business School Publishing, Boston, MA 02163. No part of this publication may be reproduced, stored in a retrieval system, used in a spreadsheet, or transmitted in any form or by any means – electronic, mechanical, photocopying, re cording, or otherwise – without the permission of copyright holders. BetterLiving Patio Rooms April 1 st 1998 John Esler thrived on recruiting good people to implement calculated business risks.

Although he enjoyed the daily ch allenges involved in owning a business, some days were more satisfying than others. The first day of April, for example, was a bad day. He had a territory disagreement with Craft-Bilt that required immedia te resolution, he had perplexing HR troubles, and production was half of what he ha d forecast, so his cash was flowing red.

John’s company, Patio Rooms of America, Inc. (PRA), was the exclusive Craft-Bilt dealer of BetterLiving Patio Rooms for most of the state of Massachusetts. Craft-Bilt manufactured components for buildin g BetterLiving Patio Rooms (see Figure 1). The key benefit of this product was that homeowners could spend time out side without being bothered by bugs or the weather – big problems for people in New England. John founded PRA as a BetterLiving Patio Rooms marketing and inst allation company in November, 1997. Sales were vigorous, so a back-log of orders (and impatient customers) was growing. In the first four months of business, PRA sold 41 rooms worth $509,006 and had a six-week installation back-log – and this for a “su mmer” business. John’s comment was, “We had phenomenal sales in January and February. We pr oved that this business is not strictly seasonal.” John wanted to grow PRA – had to grow the company to support the infrastructure he was creating – but Craft-Bilt resisted selling hi m the adjacent Connecticut and New Hampshire territories, while up-state New York, Rhode Isla nd, and Maine already had BetterLiving Patio Rooms dealers. Unfortunately, John was not rich enough or successful enough yet in Massachusetts, to convince Craft-Bilt that he could manage another BetterLiving Patio Rooms territory. Since Craft-Bilt was reluctant to commit immed iately, John was trying to persuade Craft- Bilt to leave Connecticut and New Hampshire open until PRA was ready to expand, but Ross Lederer did not want to concede even that. Ross Le derer, the Craft-Bilt Director of Development, was not as receptive to PRA’s grow th plans as John would have liked. Ross was concerned that PRA could not properly service the additional territory soon enough, so he wanted to be unhindered when approached by qualified buyers. In fact, Ross began negotiating with a couple Be tte rLiv ing Patio Rooms BAB0 72 of Wharton B usiness School graduates for the Conne cticut territory shortl y after John asked for a right of first r efusal. On the hu man resource front, John also had serious challenges. PRA already had over a dozen em plo yees, m ost building patio room s. Thes e e mploy ees were better pai d than those in his previous busi nesses, but the operation was not build ing room s fast enough. Craft-Bilt had told him that a two-man crew would buil d two room s a week, but PRA crews were onl y pro ducing one room each week.

How would he persuade Craft-Bilt to gi ve hi m a right of first refusal on the Connecticut and New Ha mpshire territ ories when PRA was not perform ing a s projected? Were his goals unreasonable? Perhaps it was just that t he co mpan y learning curve was ste eper t han he had hoped and he needed to be patient a little while longe r. But may be the pr oblem was deeper: John had no backgroun d in construction, y et he was runni ng a construction co mpany … PRA had a sales back-log, n ow it had to co nstruct room s well enough to survive. Figure 1 A BetterLiving Patio Room John Esler Born and raised in Albany , NY, John first ca ught an entrepreneurial fever as a teenager. He had worked at the Sarasota racetrack se lling tee shirts for a couple of summers and was prom oted to supervisor aft er his junior year in high school. That summer, John found him self in charge when the owner of t he business suddenl y disappeared. John managed the operation for th e ne xt four ye ars and pa id his wa y throu gh colle ge with the profits . Upon gra dua ting from SUNY Albany , John passed the business along to his brot hers. After college, John m oved to New York Cit y an d worked for the Macy’s d epartm ent store as an associate buy er for two y ears. He found the work unin spiring so he returned home to Albany . While looking f or a job, John noticed that there was no valet service at an upscale restaurant that certainly would have of fered it in New York City. He thoug ht a valet service would m ake go od m oney at this restaurant, so he approached the owner with a business proposition, and started Valet P arking, Inc. Jo hn turned one contract into a business, and 2 Be tte rLiv ing Patio Rooms BAB0 72 3 managed the company for five years. It grew to $200,000 in annual revenue, and employed 30 people (almost all part-time), but he grew bored and sold it to a senior employee in 1990. Then came Subway Sandwiches. John purchased an Albany Subway store franchise in 1990, and over the next five y ears, he opened four more stores. The businesses were successful, with two of his stores ranked in the top five Subway stores for the region. However, it wasn’t what he wanted long-term.

I set five-year goals, and when I grossed $1.5 million between the five stores, I definitely met my goals. But when it came time to set new goals, I didn’t want to stay in that business. I didn’t like the employee equation, I didn’t really like the restaurant business, I didn’t particularly like the franchisor, and on top of all that, the margins were not very good. I decided to sell my stores and look for something better. The sale left him with a wider set of options. It was around this time that he met and married Jeannie Lawton, a doctoral psychology st udent. John became enthused with the idea of gaining more knowledge about his chosen profession . He wanted to develop more sophisticated business skills, to meet other entrepreneurs, and to pursue bigger bus iness challenges with confidence. John decided to get an MBA and selected the F.W. Olin Graduate School of Business at Babson College. Babson College was a business school on the outskirts of Boston with a one year MBA degree, and a renowned entrepreneurship program. FranNet While in school, John’s studies included franchising, dealerships, and distributorships, and he wanted the advantages of business affiliation in his next venture. John started researching specific business opportunities, but had not found a compelling opportunity by the time he graduated in May 1997. (See resume, Exhibit 1).

I was looking for growth potential – multiple units or a large territory. I told people, ‘I need a business that will be at least $5 million in five years. I already had the million dollar thrill.’ One of the things I got from Babson was "What is your threshold?" How high can you set th e bar? How much will you be satisfied with? That summer, John took a three-week safari with his wife before getting to work identifying his next venture. Back from Africa, John decided to engage the services of business brokers. Eventually he found FranNet, a nati onal network of franchise brokers who shared information about business affiliation opportun ities. There were FranNet consultants selling franchises and dealerships nation-wide, and they operated much like realtors representing the sellers in a real estate transaction. The Bost on branch was owned by Jack Kelt. Jack interviewed John then presented him with opportunities in the automotive, education, and food industries. John did not want to get back into the food bus iness, and was not excited about the education Be tte rLiv ing Patio Rooms BAB0 72 4 industry; however, he thought the automotive industry had potential. After some research, John decided to meet with people at Cottman Transmission and Amoco, both headquartered in Pennsylvania. Jack first heard of Craft-Bilt at this time, and suggested John visit while he was in Pennsylvania. Meanwhile, John had also begun interviewing to get a job. What if finding a new venture took longer than expected? He and Jeanie were not independently wealthy. The negotiations for a position as a business development agent with Cedent, th e largest franchisor in the world, went as far as getting an offer. John agonized over the decision, then accepted Cedent’s offer. FranNet had told me about Cottman Transmissions and AMCO, but I accepted a position at Cedent because they were pressuring me to make a decision. When I told them yes, they turned around and said it would take a week to get me an offer letter. Then they said there were still two other candidates they had to consider. The week Cedent flip-flopped, John we nt to Philadelphia, as he recalled.

I was angry and booked a flight to Philadelphia to meet with Cottman and Amoco. Craft-Bilt was also in Philly, I hadn’t done any homework on them yet, so I only gave them three hours. I went out to dinner with the president and vice president for business development. First and foremost, I told myself, ‘I trust these people.’ I liked their openness and the look in their eyes. I left Philadelphia knowing that I didn’t like Amoco or Cottman Transmission. With the auto shops, I didn’t like the fact that everyone walked though the door upset. With patio rooms, you improve customers’ lives. I liked that.

Ironically, Cedent called three days after John met with Craft-Bilt and made a firm offer for the job he had accepted the prior week. John turned them down without hesitation. After meeting with the people at Craft-Bilt, John was ex cited about building his own business. If his due diligence checked out, he would move forward. John returned to Boston and researched the BetterLiving Patio Rooms opportunity. I proceeded to visit existing dealers. I traveled to Maine, Albany, Vermont, and Providence. These were older dealerships doing 20 to 50 rooms a year as a part of home remodeling businesses, and the dealers had nothing but praise for Craft- Bilt. I looked into the industry – no dominant player. I decided to negotiate an agreement. I thought, “If they can do this focusing on patios part-time, I should be able to focus full-time and really blow the doors off.” When John first discovered BetterLiving Patio Rooms, he was impressed by the people and the opportunity. Later the cha llenge came into sharper focus.

It hit me one day after I was well into the deal that BetterLiving Patio Rooms was, first and foremost, a construction play. I had thought of it more in terms of the Be tte rLiv ing Patio Rooms BAB0 72 opport unit y: a great produ ct with a great marketing concept supp orted b y a great manufacturer in a fragm en ted market. It had growth, margins, al most every thing I was looking for in a business. Of course I h ad also wante d to know something about the business, but with m y backgroun d, I didn ’t thin k this would be likely so I was not deterred by my inexperience in the construction trade (See Exhibit 1 for John Esler’ s Resu me). However, it has beco me cl ear to me that this is a monster challenge . Patio Room Industr y More Americans own their own ho mes in 1997 than at any tim e in histor y, bot h b y the percentage of households occupied by owners (about 65%), and in absolute terms 1. The Ameri can hom e remodeling industry was $118. 4 billi on i n 1997, an i ncrease of 5% from 1996. Over 500, 000 American households rem odeled their homes each y ear to add sun space 2. Analy sts placed the size of the sun space market in the $6 billion range, putting sunroom s3 at a littl e o ver 5% of the rem odeling industry. The scale of market dem and was confirm ed in a 1991 home owner survey where 31% reported that a sunroom was the single most desirable ele ment in a new hom e, y et only 10% of the builders survey ed incl uded this as a standard fea ture in their new construction developm ents 4. Other data on re modeling market de ma nd was collected using the toll-free “Ho meowne r Rem odeling Hotline” by NARI, the National Asso ciation for the Remodeling Industr y. The public called this num ber to ask que stions about rem odeling. The statistics in Figure 2 dem onstrate the extent of c onsum er inte rest in sunro oms. This is supported by Figure 3 , a survey which shows sunroom projects were a more co mm on pr oject than either kitchens or bathro om s. Figure 2 Information Request s Project Are as Inquirers Kitchens 47% Bathrooms 46% Other Interior 41% W indows 39% Room Additi ons 35% Sunrooms 32% Sour ce: NARI Homeo wner Remo delin g Hotline, 10/9 7 1 US Departm ent of Censu s, telephon e interv iew 8/98 2 Qualified Rem odel er M agazi ne, 9/97 3 The term “sun room s” i s used to for bot h 3-s easo n and 4-seaso n glass r ooms. Pat io ro om s are 3-seas on room s 4 Prof ession al Bu ild er & Rem odeler Mag azine, 199 1 5 Be tte rLiv ing Patio Rooms BAB0 72 6 Figure 3 Project Frequency Pro ject Rank Windows/Doors 1 Siding 2 Whole-house 3 Other 4 Room Additions 5 Sunrooms 6 Kitchens 7 Roofing 8 Bathrooms 9 Outdoor Spaces 10 Source: Qualified Remodeler September, 1997 The sunroom industry could be thought of as being comprised of four niches based on framing materials and usage: aluminum or wood, and three-season or four-season use. Patio room enclosures were defined as three-season rooms. An industry trade group, the National Sunroom Association, estimated the patio room segmen t at about $1 billion in 1997. Consumers selected between styles based on budget, needs, and aesthetic considerations. Contractors using wood- framed construction accounted for the majority of patio room construction. Wood-frame enclosures took longer to construct and cost more than aluminum-frame rooms (the average selling price for a PRA room, $13,000, was about 70% less than an average wood frame room).

In addition, aluminum required less maintenance and lasted longer.

The patio room lifestyle cut across several socioeconomic classes. Purchasers of this product tended to come from the middle class, the upper portions of the lower socioeconomic class, and the lower portions of the upper socioec onomic class. In Pennsylvania, the BetterLiving Patio Rooms customer base had also been segmented by age, with baby boomers (ages 45-60) buying 60% of the patio rooms, younger couples (ages 30-45) buying 25%, and seniors the remaining 15% of the rooms. The prime patio r oom customer age was the largest part of the population (35-54) in Massachusetts. John’s experience was that customers purchase BetterLiving Patio Rooms for a variety of reasons: lifestyle improvement, increased living space, value vs. the four-season and wood alternatives, extended use of an existing deck, custom design vs. pre-fabricated alternatives, and protection from insects. John put it succinctly, “Our hottest markets are bug-infested! People need enclosures because of the mosquitoes.” Favorite patio room activities included priv ate phone conversations, dinner “outside,” bird-watching, and enjoying the evening sky. As an investment, the return on patio room additions was about the same as other home remodeling projects as shown in Figure 4. Be tte rLiv ing Patio Rooms BAB0 72 Figure 4 Remodeling ROI Project ROI Minor Kitchen Remodel 102% Bathroom 77% Deck 73% Siding 71% Patio Room 70% Home Office 69% W indows 68% Source: Tod ay’s Hom eowner, 2/98 There was n o nationall y dom inant manufacturer in the alum inu m patio roo m industry , and m ost ma nufacturers a nd dealers we re privately held, so the industr y size and growth rate were difficult to estim ate. However, there were about a d ozen alu minum frame man ufacturers and the largest, Patio Enclosures, had revenue of $58 million in 1997. Patio Enclosures had had a co mpound an nual growth r ate over 10% since 1991. Craf t-Bilt Founded in 1946, Craft-Bilt was located in Pe nnsy lvania, an hour west of Philadelphia. This privately held fam ily firm experienced a manag em ent su ccession in the late 1980s, when the founder Bud Stone died, and his son And y rose from vice presid ent to chairman and CEO. And y recruited Ros s Ledderer, making hi m vice presiden t and director of business developm ent. Ross joined the team with carte blanc for growing the company . Ross Ledderer had experience in merch ant banki ng and franchising. He had helped grow a restaurant chain to 300 u nits, and then tried to buy it back fro m the franchisors. Unsuccessful in gaining co ntr ol of the or ganization, Ro ss went look ing for an opportu nit y to create a Fortun e 1,00 0 co mpan y, and fou nd And y St one with a sim ilar vision. Together with Ross, And y established a retail sales goal of $200 million for 2002. Privat ely held, Craft-Bilt declined to divulge annual sales nu mbers, however an onlin e com pany reporting service listed Craft-Bilt’s 1992 wholesale revenues at $5 million. To achieve t heir goal, Craft-Bilt needed a revolutionary improve ment in its dealership perform an ce. Historically , Craft-Bilt sold its patio roo ms through sm all, established hom e rem odeling contractor/dealers. Craft-Bilt paid for five-day training sem inars for all d ealership sal es and installation personnel at corporate headquarters. The ten best BetterLiving Patio Rooms dealers usually sol d over 100 r ooms a y ear, but many so ld less than a dozen. Meanwhile, the market leader, Patio Enclosures, had branches in Chi cago, Cleveland, Philadelphia , Baltim ore, an d Washington DC which consistently inst alled 700 to 1,000 room s a year. Patio Enclosures’ offices were either owned and operated by the manuf act urer (24 branches) or by franchisees (11 franchisee s). These operations foc used exclusi vely on se lling patio rooms and two co mplementa ry products (casual furniture and window treat ments) . 7 Be tte rLiv ing Patio Rooms BAB0 72 8 In mid-1997, Craft-Bilt implemented a program offering world-class support for a new class of dealers known as Craft-Bilt Super Dealership s (CSD). CSDs were created to focus on and dominate a patio room marketplace. Craf t-Bilt developed new products and services to support the CSDs (e.g., “best in class” marketing, training, and dealer recruitment programs), and set a course for unprecedented growth. Patio Rooms of America John completed his due diligence and be gan negotiations. Andy and Ross were enthusiastic about John opening up the Boston te rritory, but John wanted a larger sphere, and made an offer for the Worcester and Springfield territories immediately. Ross was skeptical about John’s request due to his lack of experien ce and financial depth. After discussions back and forth, John entered into exclusive dealersh ip agreements with Craft-Bilt Manufacturing for three territories: Boston, Worcester, and Spri ngfield, Massachusetts. John paid a $35,000 fee for the exclusive rights to the Boston territory. The Worcester and Springfield markets cost $10,000 each. John signed all three contracts in October 1997.

As someone who had financed five Subw ay stores, he had a good idea what was involved. John was not too worried about raisi ng $125,000 in bank debt because he had $75,000 in mutual funds for collateral, he was investing his own equity capital in the company, and he had a successful track record. His first stop was th e bank that he worked with in Albany, as John recalled.

Two days after I talked to him, my banke r said, ‘You are approved. No problem.’ I was going to get $50,000 as a letter of credit for Craft-Bilt and $75,000 in cash.

They said it would take two weeks to do the paperwork.

Two months later, I finally got a letter of commitment from the bank – after I had opened the business – and the deal fell through the same day I received the letter. Someone at the bank reviewed the deal and realized that some of my collateral was non-assignable! My folks could not use their retirement account for collateral. I should have looked into it , but I thought the banker would have known. So here I was in December, I owed Craft-Bilt $30,000 for inventory already in my warehouse, and I had mater ial worth another $20,000 on the way. I had to liquidate my mutual funds to pay the first bills.

The next day I called one of my contacts at Babson College, Professor Joel Shulman, and he connected me with Tim Fahey of Middlesex Bank. They provided $125,000, collateralized by the assets of the company, and $35,000 of my cash. The $125,000 only yielded $40, 000 in working capital, because Craft- Bilt demanded a $50,000 letter of credit (LC) in order to get 30-day terms on inventory. Without the LC, no terms. Bankers hate LCs, that’s why Tim kept $35,000 against the $125,000. I wrote checks for all $40,000 the day I got the money. Be tte rLiv ing Patio Rooms BAB0 72 John opened an office serv ing the Boston and Wo rcester territories on Novem ber 1, 1997. This territory included the entire state, north to New Ham pshire and south t o Rhode Island, beginning wi th Worcester count y and moving east to the ocean. PRA establish ed a 6,800 sq. ft. warehouse an d office space in Northb oro to serve as corporate headquarters. John expected to install at least 850 rooms a nnually in these three territories within five years ( Figure 5 ). There were over 1.3 million owner-occupi ed homes in this area, and the 35-54 age group was the largest seg ment of the population (s ee Figure 6 ). When John Esler opened the Boston territory , PRA beca me one of the first CSD s. With PRA’ s mid-winter s ales perfor man ce, it rapidl y bec ame a m odel CSD operation. We did some installations during the winter because most go on e xisting decks. The problem was doing th e footings 5 in winter. We d id not know what we were doing . It took a week with every one pitching in to put up one r oom with new footings. Figure 5 Patio Room Sales b y Territory Territory 1998 1999 2000 2001 2002 2003 Boston 135 175 225 275 350 425 W orcester 31 50 100 150 175 200 Springfield 50 100 150 200 225 Rooms Sold 166 275 425 575 725 850 Figure 6 Territory Demographics (000s) Personal Home- Homeow ne rs Pop Income ow ners Ages 35-54 Boston 4,011 $112,249,701 988 407 Springfield 666 13,664,970 164 68 Worcester 717 15,544,172 186 76 Sources: Market s in 1994 w ith Po pulation b y Coun ty - Regional Economic Information System CD (REI S); Household Size - Populati on Estimates Progra m, Population Division, U.S. Bureau of the Census, 8/21/9 7; Homeo wnersh ip rates - U.S. De pt of Comme rce, Economics and Statistics, HTTP: //www.c ensus.go v/hhes/www/hom eown/source.htm l 5 Foot ings a re the c onc ret e foun dat ion po sts in the ground for su pporting s truct ural wei ght. Pr oduci ng ne w foo ting s is difficu lt w hen the grou nd is fro zen as it u sually is in New En gland fro m Decem ber th roug h Februa ry. 9 Be tte rLiv ing Patio Rooms BAB0 72 10 According to Craft-Bilt, this business should operate at about 37% COGS, 50% gross margins, and 15% net margins (see Exhibit 2 for Income Statement). Overall, John expected that material costs would remain stable over time because prices for aluminum products were historically stable and Craft-Bilt had a track re cord of resisting price increases. The production labor costs should be controllable because of the modular process for installing rooms. Finally, the in-home sales transaction should continue to generate undiscounted sales. Start-up inefficiencies had kept PRA’s margins below these levels. Team Building John began putting his team together by networking, as he put it, “My most important function is selling the company to the people we ne ed on-board.” He found that two friends who lived in Albany were interested in helping to launch PRA. Ed Jackowski had known John at Subway where Ed was involved in selling franchises. Andy Constable was educated as an architect, skilled at carpentry, and had been in John’s wedding party. Andy recommended another friend in Albany who was willing to move to Bo ston, also named Andy, Andy Malone, who was an architect by training, but a master carpenter by profession. With a nucleus in sales and production, John set up the warehouse in Northboro and began recruiting. We’re trying to build a company here. I am a good employer who treats employees like members of my family. That’s why we provide medical and dental insurance, earlier than we can really afford it. I want everyone who works here to want PRA to be the last company they ever work for. It may sound corny, but I look for people with a good heart who can see that vision. The results have been great so far. Low turn-over and in each BetterLiving Patio Rooms training class, one of our people has finished number one. We have consistently attracted top quality people. Be tte rLiv ing Patio Rooms BAB0 72 Turn-over was l ess than many firms in c onstruction, and John believed th at having foundi ng principles was an im portant part of his succ ess form ula (see Figure 7 ). John explained how the third principle fou nd a practical application. These princip les have to translate into little and big things. I bought a plunger after a toilet got clogged, and brought it to a sales meeting to illus trate the point. I said, ‘If the toilet gets clogged, I ’ll be the first one to grab the plunger. We shouldn’t need to hire a janitor to clean up after us because if it is to be, it is up t o me – and you .’ Figure 7 PRA’s Fou nding Principles 1. Practice inte grity in everything that we do. 2. Value is alw ays defined by the custo mer 3. The Rule of the Tens Twos (10 words with 2 lette rs): “If it is to be, it is up to m e.” By April, PR A had three people in sales (five including John and the sales mana ger), four in the media depart ment ( all but the manager wer e part-ti me), an d four crews for a total e ight installers and the productio n manager. An im portant part of John ’s team was his independ ent board of advisors. The board included world-class ex perts in se veral fiel ds: m anufa cturer rel ationships, franchis ing, entrepreneurship, construction, and one of John ’s classm ates fro m Babson. These people met bi- monthly to review progress on the busine ss. Marketing Co mpared to other firm s selling patio room s, John had a larger, m ore highly trained marketing tea m, and a more aggressive media progr am. PRA expected to spend 9% of projected gross sales on this program (an estimated $18 5,58 9) in year one of o perations .6 Developed in part by Craft-Bilt, PRA’s marketing m ix relied heavily on television infom ercial advertising (usually placed on cable st ati ons). The 30- minute telev ision infom ercials were not run continuously due to the large num ber of leads produced by these programs. Me dia buy s were made by Direct Results Marketing (DRM) as directed by PRA. Craft-Bilt hired Direct Results M arketing in Ohio to produce t he info mercials, and the contract allowed DRM to place the ads and earn a 15% commission. To monitor v ariation fro m goal, PRA produced tracking sheets c alled Daily Marketing Reports (see Figure 8 ). The average cost for place ment on a local cable station was $175 for a 30-m inute spot, which p roduced an a verage of 12 nam es for $14.64 cost per nam e. PRA was th e onl y m arket co mpetitor using TV. 6 No te: A lthou gh ex pressed as percen tag e of sale s, m arketin g exp end itures were driv en by lead requirem ents. 11 Be tte rLiv ing Patio Rooms BAB0 72 Craft-Bilt told us t hat the nam es to appointm ents ratio was 37%, appointm ent to close w as 27%, so w e cou ld predict very closely what our sales would be. This was critical because we had to keep our salespeo ple bus y and not keep our prospects waiting to o lo ng. The key for using our capacity was to fill our da y spots, because we knew that we could fill evenings and Saturda ys. We were booking 18 appointm ents on Saturday , something like 60% of our business. Th ere w as a nice predictability to the revenue equation.

Figure 8 Marketing Conversion Ratios Success Rate Households Names from TV 100% 100.0 Appointments Written* 33% 32.8 Appointments Issued** 76% 24.9 Demonstrations 91% 22.7 Sales Closed 28% 6.4 Installed Rooms 72% 4.2 Source: PRA Dai ly Marketing Rep orts * This refers to th e customer conta ct w here an a ppo intment is set ** This refers to the confirmation call w here ea ch customer is contacted again the evening prior to t he scheduled ap pointment. John planne d to incorporate other marketi ng tech niques later, but many traditional BetterLiving Patio Room s dealers exclu ded TV from the m arketin g m ix, so these other mediums were al so proven to generate business. The marketi ng process began when a pros pective custome r called for product inform ation. The 800 nu mber was fielded in Fl ori da and faxed the next m orning. T he media depart ment mailed literature after the faxes arri ved. PRA pla nned to m ove so me of these functions in- house at so me point, as Joh n explained. I would rathe r have develo ped print an d television marketing expertise in-house, however the Craft-Bilt turn-ke y system wo rked and that was worth a lot . DRM knew the home rem odeling direct response market, but we were as involved as we could be. 12 Be tte rLiv ing Patio Rooms BAB0 72 13 This marketing system created a sales interview virtually free from competition. Each lead was pre-qualified long be fore a salesperson arrived at the customer’s home – the demonstration was at least the fifth cont act with BetterLiving Patio Rooms (see Exhibit 3). The PRA sales process involved no cold calling. As a re sult, PRA representatives were closing sales at a rate between 25% and 40%, and averaged 28 % in March; they were required to achieve a minimum closing rate of 20% to remain employed by PRA. However, John was proud of the fact that this was not a high-pressure sale, We explained the product and its benefits , and then offered the same price sheets to everyone. Customers actually used our price sheets to design and price the room themselves. They could change the room to lower the price, and we offered a standard discount for ‘buy ing tonight,’ but we didn’t haggle.

PRA received a 25-33% down payment at the time of sale. Two weeks later, before ordering materials from Craft-Bilt, PRA would bill fo r another third of the total. Then when the customer was satisfied with the installation, payment-in-full became due.

It was a long winter; I was down close to zero a couple of times. I didn’t think of changing our payment terms until February. We were living on 25% down. Most customers accepted the new terms without blinking an eye. Our cash situation improved immediately. Competition Competition in the Massachusetts market was highly fragmented with small contractors accounting for the majority of patio room cons truction. These carpenters typically built fewer than ten wood-frame rooms per year. As John described it, Our main competition was the conventional ‘stick build’ addition which takes over three weeks to build. However, we were 60% of the price and our rooms went up in 2 or 3 days. It was a fantastic advantage!

There were no other marketers using TV and representing competing manufacturers in New England. Companies in the Massachusetts market with an aluminum product similar to BetterLiving Patio Rooms included Texas-Alumin um (30 installations in 1997), Oasis Sunrooms (40 installations in 19 97), and Four Seasons Patio Rooms (30 installations in 1997). These dealers were mostly contractors who specialized in home remodeling and built patio rooms as a product-line extension. Patio Enclosures was the only manufacturer with a comparable patio room marketing program. They had no branches in the Boston market.

At home shows, other aluminum patio room dealers offered direct competition, however home shows were a minor part of the PRA marketing plan. An estimated 15% of PRA’s sales began with a referral in 1998, and John expected this percentage to increase with the growth of the installed base. The remaining 85% began with a TV infomercial. Almost all sales transactions occurred during in-home sales demonstrations. The intimate nature of the two-hour in-home presentation significantly reduced the threat of competitive challenge, as John explained. Be tte rLiv ing Patio Rooms BAB0 72 14 People didn’t usually shop around for patio rooms, unless they were at a home show. We went into the home as professional contractors – not salespeople. What we did in the home was warm and fuzzy. We talked about their dreams, about improving their quality of life, and two-thir ds of our sales happened in the first meeting. You have got to love getting non-contested sales. Production & Operations PRA’s operations were initially based on guidelines produced by Craft-Bilt. Craft-Bilt was in the process of creating a turn-key system for opening new territories. Craft-Bilt passed this system along by training owners, manage rs, installers, and salespeople at corporate headquarters. The training was supported afterwar ds by telephone consulting and regular on-site visits from key Craft-Bilt personnel. The key position in the BetterLiving Patio Rooms system was the production manager.

The production manager had to have constructi on experience, computer skills, and management talent. The production manager was responsible for all aspects of production. His human resource duties included hiring, training, and sche duling installers. His operations duties included coordinating the permit process, confirming sal es measurements and job feasibility, ordering materials, managing inventory, and monitoring job costs. Hiring someone with this unique set of skills was a difficult challenge, as John recalled.

We blew our first production manager out of the water in two weeks. He had a lot of experience in construction manageme nt, and had even built patio rooms, so he seemed perfect. But after two weeks, he looked at me with fear in his eyes. For him, pulling 20 permits was like building 20 homes. He said, ‘I’m not your guy.’ I promoted a lead installer, John Leahy, and the whole team pitched in to make things work, but it continued to be a big problem area.

Another problem was the building permits which were required for every job and issued by building inspectors. Unfortunately, every to wn had different requirements and inspectors, some with unexpected biases. For example, one inspector refused to let PRA build on a preexisting concrete slab, in spite of the fact that he concurred that it was perfectly sound. Another wanted footings for the deck that we re deeper than the footings for the house. We wanted to be able sell a room today, measure it tomorrow, and get a permit the next day, but we learned in March that it never happens that fast. One reason is the plot plan. Homeowners don’t have a plot plan, and nobody issues permits without one, so we have to get customers’ land surveyed. But the plot plan is just one of the hurdles to getting building permits. There seems to be no rhyme or reason to what ge ts approved. Building inspectors are prosecutor, judge, and jury all in one. Be tte rLiv ing Patio Rooms BAB0 72 15 Once a permit was obtained, materials were ordered. With the BetterLiving Patio Rooms product, the most expensive parts of the room were custom-ordered by the job. In April, John speculated that PRA would never need to ha ve more than $50,000 in inventory (see Exhibit 4). After the building materials arrived, the job would be scheduled, and installers assigned. Installers picked up building materials at the warehouse between 6:30 and 7:30 AM, and returned between 4:30 and 6:30 PM. This produced more over-time than John had projected in his initial business plan. However, the larger problem was that jobs were not being done right the first time, or going up fast enough.

The real challenge is in constructing roo ms. You have to put rooms up fast and tight, or there is no profit. If a room tak es too long, the profit gets killed by labor costs. If a room isn’t done right, the profit gets killed by call-backs. I hate the sound of the phone ringing when it rains.

Problems on the job site were not always the fault of the installation team. PRA sold custom-built rooms. The installation guru at Craft-Bilt was on record saying, “50% of the rooms can not be built as sold.” It was the production manager’s job to make sure he discovered these problems and resolved them before scheduling a crew for installation. John Leahy scheduled crews to build unbuildable rooms in March.

I wanted to put up 20 rooms in March, but we only put up five because of permitting and construction problems. However, we sold 30 rooms, so we had $350,000 in sales and something like $75,000 in cash (see Exhibit 5). We expect to install 20 rooms in April becau se we are learning to be more efficient.

If we can do jobs in 2-3 days instead of 4-5 days, we can start making money. Often, making a room buildable meant extr a expense and John was displeased by how often customers were told that the price went up after the sale. Salesmen were not contractors, but on-going training was essential because they needed to know what additional costs might arise when building a room. This was critical for all concerned because PRA salesmen were paid straight commission based on job profitability, so ei ther they sold profitable jobs, or starved. Issues with Craft-Bilt in Early April Although he was worried about construction and operations issues, John’s biggest concerns involved Craft-Bilt. John did not accep t the terms Craft-Bilt wanted to impose on the relationship, and saw potential problems awaiting down the road.

I wrote a business plan focused on developing Boston in the two weeks after sales training, and realized that the whole nation was up for grabs. Either we got a bigger piece of the pie right away, or we would wish we had when we wanted to expand. Be tte rLiv ing Patio Rooms BAB0 72 16 Craft-Bilt had never sold multiple BetterLiving Patio Rooms territories to a dealer before, but I sold them the vision of me as the Babson-educated super entrepreneur. All Craft-Bilt upper management read my business plan. I went back to the table and got Worcester and Springfield. Of course, they didn’t believe we woul d actually implement the plan until they saw us doing it. We became a prototype dealer for BetterLiving Patio Rooms when we sold rooms all winter.

The biggest thing I missed in the dealership agreement was the way the letter of credit (LC) would work. I thought the $50,000 LC got me 30-day terms on inventory, but all it got me was terms on inventory worth $50,000. In effect, I got no terms. We’re discussing this issue too. In the past, they were dealing with “hook and ladder” guys, so withholding credit made sense. However, when you’ve got CSDs, it makes no sense. I have an annual quota of 375 rooms beginning in year five, and seasonality creates a steep annual ramp-up, so why no terms? They say it would put the co mpany at risk, but I don’t buy it.

What do we want in our on-going relations hip with Craft-Bilt? We have a sales and marketing organization that can move home improvement products. We are developing a service delivery system. We are learning how to get our name in front of people and sell in the home. And we are learning how to deliver construction projects. Craft-Bilt offers us a quality product, but long-term, there will have to be more value in it for us. We have a great relationship now, but will they allow us to grow? We’ve talked about it, and they don’t seem threatened, but they don’t want to give me any more ground either. I want to open Conn ecticut and New Hampshire next year, but Ross is dragging his feet. I also want a right of first refusal for all other New England territories if any current dealers lose their regions. So far, Ross has not budged on these issues, yet he wants me to sign a tighter non-compete. They have the power to limit the scope of this business to western Massachusetts. There is no way I am going to let that happen. Be tte rLiv ing Patio Rooms BAB0 72 17 Exhibit 1 John Esler’s Resume JOHN K. ESLER 100 Otis Street * Northboro, MA 01532 Telephone/Fax: 508-393-0400, Ext. 226 * E-mail: [email protected] Background Summary A results driven, high performance, entrepreneurial general manager and a sales/business development leader with an exceptional range of accomplishment based on key strengths in:

Leadership - The combination of analytical, interpers onal skills and emotional resilience gained through firing line experience to create a visi on, engender dedication and hard work, and maximize team’s talents to achieve outstanding performance.

Rapid Contribution - The learning skills, obsession with excellence and excitement for the task at hand to quickly contribute in new and rapidly evolving situations.

High Performance - Exceptional energy level, dedication, competitive drive and commitment to thrive on pressure and multiple challenges, and infuse the organization with the same level of performance.

Communications - Strong written and oral communicator with superior ability to negotiate and persuade.

General Management Perspective - Experience in a P&L position for a large company and ownership of a small business. Developed business planning, business strategy and implementation skills focused on creating pr ofitable relationships with customers.

Entrepreneurial Management - Demonstrated ability to recognize opportunity, martial the necessary resources, create entrepreneurial organizations and achieve result.

Professional Experience Subway Sandwiches, Albany, NY Principal/Owner 1990-1996 Originated and operated 2 year-round and 3 seas onal locations that ranked as first and second volume locations in a 65 store market.

RH Macy and Company, New York, NY Asst Buyer, Sportswear Dept 1986-1989 Promoted from Management Training program to Sales Manager to Assistant Buyer with responsibility for purchasing, inventory manag ement and pricing for a $15 million product category.

Valet Services, Inc. /Saratoga Flats, Albany, NY Principal/Owner 1981 -1995 Founded and established two entrepreneuria l businesses. Sold both as ongoing entities. Education F.W. Olin Graduate School of Business, Babson College 1997 Master of Business Administration - Entrepreneurial Studies and Marketing Magna Cum Laude Honors, GPA: 3.7 Class Rank: 6, Class Size: 220 University of New York at Albany 1985 Bachelor of Arts, Dual Major- Finance/ Economics Outside Interests National/American Hockey League - youngest ever to officiate at the professional level Enjoys golf, skiing, tennis, SCUBA diving and travel. Be tte rLiv ing Patio Rooms BAB0 72 18 Exhibit 2 PRA Income Statement (continued on Exhibit 6) Jan Feb Mar Total Rooms Installed 5 8 7 20 Recognized Sales $ 71,571 $ 98,744 $ 81,657 $ 251,972 Average Selling Price $ 12,599 Cost of Construction Materials 28,317 40% 34,117 35% 37,444 46% 99,878 Field Installation 7,412 10% 9,854 10% 16,383 20% 33,648 Equipment & Trucks 5,650 8% 2,996 3% 6,138 8% 14,784 Permits 730 1% 550 1% 526 1% 1,806 Total CoC 42,109 59% 47,517 48% 60,491 74% 150,116 Gross Profit 29,462 41% 51,227 52% 21,166 26% 101,856 Sales & Marketing Sales Compensation 9,711 14% 11,656 12% 14,383 18% 35,750 Media Department 3,540 5% 3,691 4% 3,745 5% 10,976 Advertising 10,804 15% 3,992 4% 9,537 12% 24,334 Misc. Expenses 538 1% 1,712 2% 2,070 3% 4,320 Total Sales & Mkg 24,594 34% 21,051 21% 29,735 36% 75,380 Indirect Operations Production Mgmt 2,722 4% 4,000 4% 4,000 5% 10,722 Warehouse 244 0% 812 1% 476 1% 1,531 Awards - - - - Indirect Oper. Exp. 2,966 4% 4,812 5% 4,476 5% 12,254 G & A Salaries 7,630 11% 4,167 4% 3,326 4% 15,123 Rent 3,883 5% - 0% 3,883 5% 7,766 Telephone 2,922 4% 927 1% 2,639 3% 6,489 Insurance 3,199 4% 2,034 2% 3,191 4% 8,423 MIS 300 0% 774 1% 835 1% 1,909 Office Supplies 356 0% 250 0% 835 1% 1,440 Professional Fees 991 1% 2,138 2% 5,468 7% 8,597 Utilities 884 1% 1,502 2% 1,452 2% 3,837 Dues / Subscriptions 75 0% 85 0% 44 0% 204 Travel / Entertainment 1,602 2% 393 0% 644 1% 2,639 Bank Charges 30 0% 1,052 1% - 0% 1,081 Total G&A 21,872 31% 13,321 13% 22,317 27% 57,509 TOTAL (non-CoC) $ 91,540 128% $ 86,701 88% $ 118,130 145% $ 296,372 EBIT $ (19,958) -28% $ 12,043 12% $ (36,473) -45% $ (44,388) Be tte rLiv ing Patio Rooms BAB0 72 19 Exhibit 3 PRA Sales and Installation Cycle • Day 1: TV ads generate calls to an 800 number answered in Orlando, Florida.

• Day 2: These leads are faxed to PRA the next morning and the PRA media supervisor sends out product literature to prospects.

• Day 4-5: The media department calls to answer questions and schedule in-home sales appointments. These calls are typically made in the morning or early evening when individuals can most often be reached at home. • Day 6-10: The day before an appointment, media calls to confirm.

• Day 7-11: Scheduled appointments are conducted by the sales department. Initial job measurements are made as part of the sales demonstrations. PRA estimates that 65% of all sales are closed on the first visit to the home. A 33% deposit is the standard down payment.

• Day 8-12: John or the salesman begins work on obtai ning customer financing if needed. Less than 50% of PRA customers seek financing. • Day 8-12: The production manager receives work orders. He visits customers to confirm measurements, and fills out job order forms to purchase materials. Orders are placed once per week and materials are received within 10-14 days. Terms for material are net 30-days. Customers pay another 33% of the sales price prior to PRA ordering building materials. • Day 12-32: Installations are scheduled to be complete d 3-5 weeks from the close of the sale. During this time, the production manager obtains any building permits that may be necessary from the town. Additionally, any preparator y deck or foundation work is completed. • Day 33-46: Patios are installed by PRA crews. Installation times range from 1 to 7 days, depending upon complexity and any complicating factors. The average installation time is running a little over 3 days. Upon job completion, the outstanding balance is collected. • Day 47- 61: Door hangings are placed on neighbors’ doors and an open house is scheduled to be held in the newly installed patio room. Be tte rLiv ing Patio Rooms BAB0 72 20 Exhibit 4 PRA Balance Sheet Dec-97 Jan-98 Feb-98 Mar-98 Assets Checking/Savings 1,913 17,604 36,900 63,480 A/R - - 250 17,107 Inventory 3,197 37,989 16,300 34,759 Fixed Assets - 2,874 4,666 7,802 Other Assets 37,125 37,125 37,125 37,125 Total Assets $ 42,235 $ 95,592 $ 95,241 $ 160,274 Liabilities and Equity A/P 17,369 32,735 21,919 36,230 Loans From Related Parties 75,981 59,730 64,102 62,795 Notes Payable, bank - 74,000 73,700 73,025 Customer Deposits 4,649 4,849 (801) 88,496 Equity (55,764) (75,722) (63,679) (100,272) Total Liabilities & Equity $ 42,235 $ 95,592 $ 95,241 $ 160,274 Exhibit 5 PRA Cash Flow Statement Jan-98 Feb-98 Mar-98 Sales Collected $ 75,946 $ 98,494 $ 64,800 Expenses:

Cost of Construction 26,743 58,332 46,180 Sales and Marketing 24,594 21,051 29,735 Indirect Operating Exp 2,966 4,812 4,476 General & Administrative 21,861 13,321 23,549 Total Expenses 76,163 97,516 103,939 Net Operating Cash Flow (217) 978 (39,139) (Inc)/Dec in Inventory (14,793) 21,690 (18,459) Inc/(Dec) in Cust deposits 200 (5,650) 89,297 Puchase of Fixed Assets (2,874) (1,792) (3,137) Loans From Related Parties (16,251) 4,372 (1,307) Loans From Bank 74,000 (300) (675) Net cash inflows/outflows 40,065 19,297 26,579 Beginning Cash (22,462) 17,603 36,901 Ending Cash $ 17,603 $ 36,901 $ 63,480 Be tte rLiv ing Patio Rooms BA B0 72 Exhibit 6 Pro Forma Income Statement 4/98 5/98 6/98 7/ 98 8/ 98 9/98 10/98 11/98 12 /98 Totals Rooms Installed 11 1 5 19 23 27 23 19 15 11 183 Total S ales $1 42 ,340 $1 94 ,100 $245,860 $297,620 $3 49 ,380 $2 97 ,620 $245,860 $194,100 $1 42 ,340 $2 ,361,192 Cost of Cons truc tion M aterials 52,666 7 1,817 90 ,968 110,119 129,271 11 0,119 90,96 8 71 ,817 52,666 $8 80 ,289 F ield Installatio n 19,928 2 7,174 34,420 41,667 48,913 41,667 34,420 27,174 19,928 $3 28 ,939 E quipment 4,28 8 5 ,848 7,407 8,96 7 10,52 6 8,967 7,407 5, 84 8 4,288 $7 8,330 P ermits 62 1 8 47 1,073 1,29 9 1,525 1,299 1,073 84 7 621 $1 1,009 To tal Co C 77 ,503 1 05,686 133,869 16 2,051 190 ,234 162,051 133,869 10 5,686 77,50 3 $1,298,568 Gr oss Profit 64 ,837 88 ,414 11 1,991 135,569 159,146 135 ,569 11 1,991 88,414 64 ,837 $1,062,624 Sales & M arketing S ales C omp 14,234 1 9,410 24,586 29,762 34,938 29,762 24,586 19,410 14,234 $2 46 ,672 M edia Dept 2,84 7 3 ,882 4,917 5,95 2 6,988 5,952 4,917 3, 88 2 2,847 $5 3,160 A dver tising 6,405 8, 73 5 11,06 4 13,393 15,722 13,39 3 11,06 4 8 ,735 6,405 $1 19 ,248 M isc. 80 5 1 ,097 1,390 1,68 2 1,975 1,682 1,390 1, 09 7 805 $1 6,243 To tal M arketing 24,291 3 3,124 41,957 50,790 59,623 50,790 41,957 33,124 24,291 $4 35 ,324 Indi rect O perations P roduction M gmt 2,89 0 3 ,941 4,991 6,04 2 7,093 6,042 4,991 3, 94 1 2,890 $5 3,543 W arehouse 30 0 4 09 518 62 7 736 627 518 40 9 300 $5 ,977 Total IO 3,19 0 4 ,350 5,510 6,66 9 7,829 6,669 5,510 4, 35 0 3,190 $5 9,520 G & A Sa laries 3,10 3 4 ,232 5,360 6,48 9 7,617 6,489 5,360 4, 23 2 3,103 $6 1,109 Re nt 2,57 0 3 ,505 4,440 5,37 4 6,309 5,374 4,440 3, 50 5 2,570 $4 5,854 Telephone 1,60 7 2 ,191 2,776 3,36 0 3,944 3,360 2,776 2, 19 1 1,607 $3 0,300 Insurance 2,41 3 3 ,290 4,168 5,04 5 5,923 5,045 4,168 3, 29 0 2,413 $4 4,179 MI S 45 8 6 25 791 95 8 1,124 958 791 62 5 458 $8 ,696 O ffi ce Supplies 43 2 5 89 746 90 3 1,060 903 746 58 9 432 $7 ,841 Profession al Fees 2,69 4 3 ,674 4,653 5,63 3 6,612 5,633 4,653 3, 67 4 2,694 $4 8,516 Utilitie s 24 3 3 42 51 59 51 42 33 24 $4 ,195 D ues / Subs cr 13 1 1 78 226 27 3 321 273 226 17 8 131 $2 ,142 Trav el / Ent 48 9 6 66 844 1,02 2 1,200 1,022 844 66 6 489 $9 ,881 Ba nk Ch arges 45 6 1 77 94 110 94 77 61 45 $1 ,745 Total G &A 13,966 1 9,044 24,123 29,201 34,280 29,201 24,123 19,044 13,966 $2 64 ,457 TOTAL (n on-C oC) 11 8,949 16 2,203 205 ,458 248,712 291,966 24 8,712 205 ,458 1 62,203 118,949 $2,057,869 EB IT $2 3,391 $3 1,897 $40 ,402 $48,908 $57,414 $4 8,908 $40 ,402 $ 31,897 $23,391 $3 03 ,323 21