The Resurrection of Philip Services

The rise and fall of Philip Services Corp. (Hamilton, Ontario) was one of the more spectacular stories in the scrap industry in the late 1990s.
   Through an aggressive acquisition spree, the firm established itself—for a brief time—as perhaps the largest ferrous scrap recycler and mill service firm in North America. Its rollup strategy encompassed some of the biggest names in the business, including Luria Brothers, Steiner-Liff Iron and Metal Co., and Luntz Corp. The company’s stock skyrocketed, attracting the interest of Wall Street and big investors such as Carl Icahn.
   But everything fell apart in 1998. In early January, Robert Waxman, president of Philip’s metals recovery group, resigned abruptly. A few weeks later, the company announced a “difference between book inventory and physical inventory” in its yard copper business. Philip filed a $240-million lawsuit against Waxman and others for alleged unauthorized copper trading. Waxman countered that he was simply following orders from the firm’s upper management to pursue cash-generating initiatives through copper trading, hedging, and “other innovative financing operations.”
   Unauthorized or not, the trading losses forced Philip to restate its earnings, shaking its investors. Its stock plummeted from around $28 a share to pennies a share by December 1999, creating equity losses in excess of
$3 billion for its shareholders. In response, shareholders filed class-action lawsuits against the company.
   Adding to Philip’s troubles, the scrap market declined dramatically in 1998, slowing the company’s cash flow and making it difficult for the firm to meet its more than $1 billion in debt from its acquisition phase. At one point, Philip considered selling all of its scrap assets to raise cash and fend off bankruptcy.
   Philip also faced considerable management turmoil, with top executives Allen and Philip Fracassi relinquishing control of the company in mid-1998.
   Finally, in June 1999, the cumulative weight of these burdens prompted Philip to seek bankruptcy protection under Chapter 11 of the U.S. Bankruptcy Code and the Companies Creditors’ Arrangement Act in Canada. As the company worked to reorganize, it continued to shuffle its management roster. Anthony Fernandes took over as president and CEO from Felix Pardo, a company director, while Fred Smith succeeded Fred Cranston at the helm of the metals services group.
   The dark clouds over Philip began to disperse this April when the company completed its financial reorganization and emerged from bankruptcy. The old Philip Services Corp. was replaced by a new entity named Philip Services Corporation. Through its restructuring and the sale of its Philip Services (U.K.) Ltd. operations, the company reduced its senior secured debt from more than $1 billion to $187 million and $100 million in secured convertible payment-in-kind debt.
   The stock of the old company was delisted April 14, while stock of the new Philip Services Corporation debuted on the Toronto Stock Exchange in mid-April under the symbol PSC and on the NASDAQ market under the symbol PSCD.
   The firm is making its new start with a reported $175 million in working capital financing. Will it succeed this second time around?
  To find some answers, Scrap talked with the man responsible for leading Philip Services Corporation’s comeback—Anthony Fernandes. Here’s what he had to say.

In hindsight, was Philip’s rollup strategy in the scrap industry sound or flawed?
I think there was an opportunity to bring units together and try to find synergy between them. It was critically important, though, not to overpay when acquiring new companies. And there have been some questions about the level of value that Philip ascribed to a number of facilities. But I do think the scrap business has the potential, certainly on a regional basis, to be more effective if you’ve got quality assets and can deal with a number of key clients. That also applies on the brokerage side where you can deal across business segments.

What were the principal causes behind Philip’s reversal of fortune beginning in 1998?
It was a confluence of a number of events. First, Philip wasn’t just rolling up from the scrap side. It was also rolling up businesses on the industrial services side. I think the company completed 30 or 40 acquisitions in a very short time.
   Secondly, the company had a financial control problem on the copper side, which raised considerable concern about the firm. Obviously, when one has to restate earnings, that raises all kinds of questions in the investment community’s eyes. The firm lost a fair amount of credibility during that process.
   And thirdly, scrap prices fell to their lowest level in 10 or 12 years. Also, the petroleum industry was going through a difficult time, with crude oil prices at extremely low levels, which caused people to rethink their timing and turnarounds. These were major areas of business for Philip.
   All those elements occurred around the same time. The net result was that the company lost customers, the payables moved up very rapidly, requiring the firm to pay almost immediately, which caused tremendous pressure on the company’s cash flow. It became caught in a situation where it couldn’t meet the covenants of its debt. That resulted in people buying into the company at very low values and then pushing the company into prepackaged bankruptcy.

In 1998, Philip’s scrap operations reportedly accounted for about 60 percent of its total revenue. What percentage do they account for today?
I think it’s closer to 35 to 40 percent. We’re about a $2-billion company, and I’d say there’s $700 million to $800 million on the revenue side from our scrap operations.

At its peak, Philip was perhaps the largest ferrous scrap processor in North America. Where does it rank now?
My impression is we’re in the top three or so. But I want to point out that there are very few companies that do what we do—provide mill services, scrap processing, and brokerage. We provide that breadth, and what we want to do is go beyond that in terms of the industrial services side. We’re in the metals recovery and processing side in a broader context than just scrap.

You left an executive vice president position at Atlantic Richfield Co. to join Philip in August 1999. Given how embattled Philip was at that time, what enticed you to join the company?
For one, in my 31 years with ARCO, I dealt with businesses similar to Philip’s client base—refining, petrochemical, power, chemicals, upstream oil and gas. I was involved in Anaconda on the metals side, so I knew something about copper. I also had an aluminum facility that reported to me. So I knew something about Philip’s customer base.
   Secondly, I was interested in running an organization. That is, I wanted to take my 31 years of experience, apply it to a company, and basically do it my way.
   And thirdly, I was looking for a high-risk, high-reward environment where a lot had to be done and the opportunities were significant. What I saw was a situation where people had invested in Philip in the short run because they saw the potential of the company. And in my due diligence—looking at the breadth of the company and talking with some of the managers—I saw the capability of this company to respond to this situation and return to its presence in the marketplace in a very positive way.

When you joined Philip, Chairman Robert Knauss said you’d “make the changes necessary to put the company on a path of stability and profitability.” What key changes have you made to achieve those goals?
One, I’ve reorganized the organization so the operations report more closely to me. I’ve tried to de-layer the organization and make sure we are as cost-effective as possible.
   I’ve brought in a number of new people. Fred Smith, for instance, is now running our metals operations. He has 30 years of experience on the steel side and is someone who has bought scrap for most of his life and knows the business quite well.
   I’ve also tried to focus the company on key issues, and one of those is to make sure we operate as one enterprise. This organization is a rollup of a lot of individual companies, and the process of integration didn’t have time to get completed because of all the difficulties. So I’ve tried to get everybody looking at Philip as a corporation, as a single enterprise where we all can contribute to its success.
   I’ve put a tremendous amount of emphasis on credibility. I’ve also put a tremendous emphasis on teamwork, making everyone understand that we’re all accountable for the performance of this 
company.

In April, the old Philip Services Corp. was replaced by the new Philip Services Corporation. What are the new company’s principal challenges at this point?
I think it’s to return to the marketplace and achieve the presence that it had in the past and ultimately to perform profitably. The company’s fundamental business proposition is very sound in terms of the whole concept of outsourcing, which has been a significant trend in industry. And I expect it to increase over time. It allows our clients to focus on their core activities and allows us to perform the activities that we do well, thereby reducing their overall cost structure and making them more competitive in the marketplace.
   The key is for us to reestablish ourselves. We’re trying to broaden our relationships with our clients and develop alliances in a way where we can take advantage of the multiple level of services we provide. What we have is a company that has breadth, both in the industrial services side as well as the metals recovery and waste management side. And we cover the entire North American continent, so we have the geographic reach. What we want to do is take advantage of that, utilizing that with our customers who are also spread throughout North America.

In your experience, how successful are companies at emerging from bankruptcy in the long run?
Since this is my first bankruptcy, I don’t have perspective in that regard. Plus, I haven’t looked back and tried to develop any historical or empirical evidence.
My focus is on what this company has now in terms of its assets, its marketplace, its clients, its organization, and its management team. And I’m absolutely convinced this company is going to be successful. I’m seeing evidence of that already.
  It’s critically important to understand that Philip hasn’t had a stable environment in recent years. For one, a company making many acquisitions is somewhat unstable because things are changing so rapidly. And then you go through the whole bankruptcy process, which lasted about a year and a half, and it’s difficult to say what’s the baseline for this company.
In the past six to nine months, we’ve tried to stabilize the environment. We’ve tried to focus on a handful of issues so we’re not trying to fix every problem at the same time.

In 1998, Philip considered selling its scrap recycling assets. Then it reconsidered. But recently it sold its U.K. division to Simsmetal. Will Philip continue selling its scrap operations?
When Philip was considering selling its metals business, that was really an attempt to forestall bankruptcy. The company was looking at what assets were salable that could satisfy its covenants so it wouldn’t have to declare bankruptcy. But the firm found itself trying to sell those assets in one of the worst scrap markets in the past 10 or 12 years. At that time, it wasn’t going to get much value for those assets. So the company decided to back off rather than sell at rock-bottom prices.
  In terms of the U.K. operations, that’s a unique situation. The U.K. scrap business was consolidating, and anybody who wanted to play in that game was going to have to invest a considerable amount to participate. The U.K. division was a successful part of our operation, but we weren’t willing to participate in that consolidation at the investment that was required. And Simsmetal made us an offer that truly represented the value of the company. It was clear that was the right direction for us to take. The decision to sell was more opportunistic than strategic.

Are you worried about the performance of the new Philip Services Corporation’s stock thus far?
I’m not worried about it. Admittedly, one needs to appreciate that there’s very little liquidity in the stock right now. The banks own in excess of 90 percent and the unsecured creditors own an additional portion. The stock has been in the hands of the owners for a short time, and I think it’s the old shareholders who now have new shares who probably are trading. We’re trading at probably less than 10,000 shares a day.
   As for the stock’s value, you can go back to September or October to what we published with the court in terms of an enterprise value. If you took the equity value that was calculated, it was in excess of $140 million. At 24 million shares, you come up with a per-share value of around $6. It was recently trading around $7 a share. I don’t want to ascribe anything more than those are just the facts.
   So I’m obviously not concerned about that. I believe the company has tremendous potential to create value, but the only way we’ll do that is by results and demonstrating what we’re capable of doing.

It’s been reported that Carl Icahn owns around 42 percent of the new Philip. Is that correct?
I believe he owns closer to a third.

Do you view him as a threat to the future stability or viability of the company?
No. He is a major shareholder, and like any shareholder he wants a return on his investment.

What’s the status of your civil and criminal lawsuits with Robert Waxman?
They’re continuing to move forward. We’re moving on all fronts to the extent we can. But they’re very complicated cases. And honestly, that’s not something I’ve focused my attention on. I’ve focused my attention more on running the company.

In the past couple of years, several scrap executives have left Philip, including John DiLacqua, Gene Iannazzo, Dennis Wilmot, and Larry Stein. Does this loss of experience worry you?
Obviously, I felt it was important to bring someone in on the metals side with the background of someone like Fred Smith. I’m fine with where we are, with the understanding that we’re obviously going to have to continue to bring in talent as this company grows and grows profitably. We’ve recruited excellent people to replace the latter two logistics and brokerage positions. We’re in a position once again where people are coming to us looking for employment opportunities.

In March, Philip took the e-commerce plunge, helping launch ScrapSite.Net. What was its motivation to do that?
A number of us view this as the wave of the future. It’s a little unclear how it’s going to evolve, but we wanted to play in this game. It potentially has tremendous opportunity for our businesses. And once we realized that, we decided to get in and participate and see if we can be at the forefront in this particular aspect. I can’t tell you exactly how it’s going to play out. But one thing I didn’t want to be was behind the curve on the whole e-commerce environment.

Part of the firm’s new start includes moving its headquarters from Hamilton, Ontario, to Chicago. Why do that?
First of all, let’s define what moving is. It’s less than 30 people, really just the top management and support staff. Also, about 85 percent of our business is in the United States, and we’re now a U.S. corporation, incorporated in Delaware. We wanted to make our management as efficient as possible in terms of its connection with the marketplace and with our organization. Hamilton is a bit difficult in terms of transportation and traveling. The move is more for an overall effectiveness point of view for top management.

Given Philip’s experience, do you think scrap industry consolidation is still a viable strategy?
Given the structure of the scrap business, I think there was opportunity to create value and I think there’ll be opportunity in the future to create more value. So I’d say yes, scrap industry consolidation can be a viable strategy, but execution is always critical regardless of the strategy.

Then do you have any plans to acquire additional companies?
The focus today is getting this organization hitting on all cylinders. But I’ve also indicated that we’re not just going to be unidimensional, looking only at costs and what we have today. We’re going to look at opportunities that will enhance the company. But they’ll have to be very compelling opportunities.

On a scale of 1 to 10, how would you rate the company’s strength and prospects as it makes its new start?
When I joined, I saw Philip’s opportunities in the 6 to 7 range. Having been here more than nine months, seeing the people and what the capabilities are and the fundamental business proposition, I’d move that up to a higher number. The promise of this company for being a viable organization, one that can provide quality returns to its shareholders, is absolutely there and I’m highly confident.

Any closing thoughts on Philip’s future?
The point I would focus more on is to our clients as opposed to our competitors, and that is that we’re looking for ways to enhance our relationship. We believe we provide a very broad array of services and we’re quite unique in the industry in our ability to do that. There’s no doubt in my mind that we’ll be very cost-effective and very competitive in the marketplace. •