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The Collapse of American Remanufacturers Inc: An In-Depth Look at Ari’s Fall into Bankruptcy


7/1/2006
By Brian Cruickshank

 

At one time, American Remanufacturers, Inc. (ARI) was huge, with a near legendary aftermarket executive at the helm. But in the span of 25 months, the honeymoon between ARI and its new CEO Larry Pavey was more than over — it had ended in a bitter divorce that jeopardized the reputation of a respected leader, sending the company first into Chapter 11 bankruptcy, then a disastrous Chapter 7 filing that shuttered ARI’s nine businesses across North America. It left 1,600 workers without jobs, other manufacturers without product, distributors without a supplier and a question mark over the future of the remanufacturing industry in the U.S.

How did such a seemingly successful and growing company end up in such a terrible position? How did Pavey, the man credited with creating some of the most successful brands in the entire aftermarket, find himself leading a company that was headed into an irreversible tailspin?

Across the industry, people were shocked. ARI had nearly 40 percent market share, and its closure created a gaping void in the market, a void that even today suppliers are struggling to fill. Bob Smith, former chairman of the ARI board, explained just how broad ARI’s influence really was: “We were probably the only company that sold to Advance, AutoZone, CARQUEST and NAPA.”

Some pointed the finger of blame squarely at Pavey, whose brief tenure as CEO coincided with the company’s demise. Others have speculated that things were not quite right with the company, its merged components and key personalities, even before Pavey inherited them. Still others feel the company didn’t (or was not able to) react quickly enough to changing market forces in the remanufacturing business. Perhaps, it was a combination of all these factors.

Considering ARI’s size, influence and position in the industry, it was surprising that the company collapsed in such an apparently short and painfully public manner. But ARI’s slide to bankruptcy was years in the making. To the outside world, ARI’s implosion occurred in a matter of weeks; the company’s problems, however, were more deep-seated, with a history that stretched back to the late 1990s.

GROWTH MODE
In the late 1990s, things appeared good. ARI was in a major acquisition mode, helped by a private equity partner, Three Cities Research, which had purchased part of ARI. ARI executives had a clear vision for the company, one discussed by Timothy Campbell, then ARI’s president and CEO, in a 2000 interview with Counterman’s sister e-publication, aftermarketNews. “If (we) could combine the best remanufacturers into one cohesive, nationwide company, we could not only compete with the biggest names in the business, but also give the industry what it needed most: a choice in remanufactured automotive products. Our bottom line is to offer our customers the most streamlined, cost-effective, one-stop shopping alternative for their product needs.”

Campbell himself was no stranger to the reman business. He purchased the assets of Automotive Caliper Exchange Inc. (ACEI) from the previous owners in 1994. When the assets of ACEI were sold to ARI in 1998, Campbell was named president and CEO of ARI. By the spring of 1999, ARI had grown through acquisition to include American Driveline Inc. (ADL), Ohio Caliper (OCI) and ATSCO Products.

Like many company mergers, integrating these companies, both culturally and operationally, proved difficult. Several people within ARI described a divided company, a collection of mini entrepreneurial fiefdoms in which each operated with no real allegiance to the new parent company. The “cohesive” company Campbell wanted to create was not becoming a reality.

But at least to the outside world, ARI was becoming what Campbell envisioned: a one-stop shopping alternative for reman undercar product. Indeed, ARI had become an influential remanufacturer, with a growing list of reman product: 4x4 prop driveshafts, severe-duty brake calipers, loaded and unloaded disc brake calipers, power brake boosters and hydroboost units, power steering rack and pinion, pumps and gear boxes, along with a line of reman heavy-duty products. The majority of its sales was in remanufactured CV axles, a product line whose demand was beginning to suffer, along with many other reman lines, because of the increased availability of new, off-shore product, particularly from China.

At the time, the company appeared to be growing, publicly touting its expanding distribution facilities, which by 2000, included Southern and Northern California, Cleveland, Detroit, Las Vegas, Memphis, Phoenix and Seattle. The company also consolidated its Southern California-based ACEI operation from five locations into one 300,000 square-foot facility in Anaheim, CA.

By July 2000, ARI again entered acquisition mode, purchasing ABS Friction, Inc., a Canadian manufacturer of integrally molded disc brake pads. With the acquisition, ARI was soon able to launch a brake parts program that included rotors, drums, brake hardware kits and brake pads and shoes for an important loaded caliper line. About a year later, the company unveiled a clutch and brake components program in addition to remanufactured brake, steering and driveline products.

ARI MERGES WITH CCT
Car Component Technologies, which had earlier been bought by private equity firm Rhone Capital, and ARI were merged in early 2003 by Rhone Capital and Three Cities Research. With the merger, CCT Co-founder Bob Smith became the new chairman of the ARI board, and Campbell remained as ARI president.

The merger began a tenuous, difficult relationship between Smith and Campbell. The two men who most needed to work cooperatively could hardly stand to be in the same room together.

PAVEY JOINS ARI
In a move that surprised many in the aftermarket, longtime Dana Corp. and Brake Parts Inc. executive Larry Pavey was named CEO of ARI on April 24, 2003. In his new position at ARI, Pavey was charged with maintaining the company’s market position in remanufactured products and building ARI’s brake and clutch programs. Smith and Campbell, despite their differences, agreed to remain at the company until the end of 2003.

Previously, Pavey had served as president of Dana’s Under Vehicle Group, with responsibility for all businesses serving brake, chassis and driveline products around the world. Under his leadership, the business became the largest brake supplier in the aftermarket, and Pavey developed a reputation as a professional people knew, liked and respected. Once at ARI, it wasn’t long before many Dana sales, operations and marketing executives followed him there.
In November 2003, six months after his appointment, Pavey was characteristically upbeat about his new team, position and potential for growth.

“We expect to see substantial growth in our business because many customers are looking for a new type of relationship with their suppliers,” said Pavey in a November, 2003 interview with aftermarketNews. “The focus is on truly working together and finding solutions for the issues that exist in the marketplace. But we will have controlled growth. Part of our strategy is partnering with the right customers and working to maximize their sales and profits rather than trying to sell everyone.”

Pavey’s job of managing the result of the CCT/ARI merger was not without challenges, and some have questioned the health of the two companies, even before Pavey arrived at ARI. Cash was tight, and even at this point, ARI was having trouble paying some of its bills. Additionally, some key ARI executives expressed concern about the various merged companies’ disparate information systems, many of which could not provide the kind of accurate information executives needed to get a firm hold on the company’s assets. Executives didn’t have full bill of materials information, nor complete access to standard costing. They were essentially operating in the dark, relying on physical inventories to know what they really had.

In 2003, the company showed book profits where there were none, and ARI was much sicker than anyone at the company fully understood.

When that year closed, serious financial issues arose, such as questions relating to inventory valuation and other factors that impacted earnings. It was discovered after a physical inventory that there was $8 million to $9 million in previously unaccounted (or misaccounted) core shrinkage — the result of ARI’s need to use multiple cores to remanufacture single units. This was a serious accounting oversight, due in large part to the company’s informational problems.

At this point, ARI broke covenance with its investors, ARI’s credit line was eliminated and Pavey nearly left the company.

There were also serious issues related to specific product lines. When ABS Friction was acquired by ARI in 2000, for example, it was tasked with providing friction for ARI’s new Roadproven loaded caliper program. However, installers and distributors wanted a more well-known brand name, which ARI could not provide. Thus, the Roadproven brand never caught on with customers, and sales were sluggish.

And there were other issues that hurt ARI at a time it least could afford it: ATSCO lost a vital customer (believed to be AutoZone) and most critically, the effect of new, similarly priced product, sourced mostly from China, really hurt the sales of some essential ARI reman product lines.

CHINA PITS NEW PRODUCT VS REMAN
With the growing impact of new product from countries such as China, ARI’s reman products (CV axles in particular) were in jeopardy. Across the industry, demand for reman product lines such as clutches, water pumps and brake shoes had fallen off as the market shifted to new-only product that could be sourced from off-shore manufacturers at prices that were close to reman. For the CV axle category, which by this time represented 72 percent of ARI sales, a similar shift to new product was happening. Key customers started sourcing a greater percentage of their lines directly from China or from North American companies such as Fenco and A1 Cardone, which had launched their own lines of new product to combat this trend.

This preference for new product had nothing to do with quality or even price. Indeed, in many instances, remanufactured product is superior in quality to new product. But for distributors, new product brought one important benefit: No cores. Customers simply didn’t want to handle cores, and the availability of new product made the transition away from reman an easy way to skirt core management costs.

Pavey understood the challenges the reman industry faced.

“There are a number of issues that have impacted remanufactured parts,” he said in the 2003 aftermarketNews interview. “First, remanufactured brake shoes were eliminated by a number of companies due to asbestos concerns. There also are some products where the cost of new components dropped to close to the level of remanufactured product, and customers are choosing new.”

Nevertheless, Pavey was upbeat about reman’s position in the market, as he continued to discuss reman’s future in the 2003 aftermarketNews interview.

“Where remanufactured product is done correctly and the part is restored to the original performance criteria, there is great value,” he continued. “We expect to see a slight drop overall in the market share for reman products in the next two to three years and then anticipate it will begin seeing growth again. I think we all agree that vehicle models and the parts needed for them are proliferating at an extreme pace. While this creates a number of challenges, it actually helps the remanufacturing industry. Part proliferation results in smaller unit sales across a broader number of SKUs. This means that the cost to tool a new part is harder to justify on a broad offering with limited volume. It makes remanufacturing more cost-effective and allows consumers with older or lower volume models to be able to obtain repair parts at competitive prices. We will continue to focus on parts where remanufacturing has maximum value.”

Despite his optimism, ARI customers — major ones such as AutoZone, Advance and NAPA — not wanting to continue to shoulder the burden of managing cores, continued to shift to new product lines, which eroded ARI’s reman market share. AutoZone took on Fenco’s new CV axle line. NAPA brought on A1 Cardone’s new line and Advance is rumored to have sourced its new CV axle line direct from China-based manufacturer Guansheng Auto Parts Manufacture Co. (GSP).

Privately, executives at ARI — Pavey in particular — saw the writing on the wall. They knew they needed to offer a line of new axles in order to offer customers an option. If they didn’t, they feared customers would transition their full reman lines to new product as Chinese capacity to fill orders improved. But ARI had painted itself into a corner: On one hand, the company couldn’t start a new line of CV axles because the core liabilities in the market would have caused a financial crisis for ARI. AutoZone, as just one example, had more than $20 million in ARI cores. On the other hand, ARI couldn’t remain exclusively in the reman business because customers increasingly wanted product that didn’t involve the cost and logistics of handling cores.

Pavey knew a new CV axle line was the best path to pursue, but ARI investors balked at the cash required for such a launch. The company couldn’t remain strictly a remanufacturer, and investors wouldn’t allow ARI to pursue new product. The company was paralyzed.

SEEKING A WAY OUT
Cash flow troubles continued to loom large for ARI. In May 2005, private equity firm Black Diamond, along with a Boston-based hedge fund, refinanced the company. Again, Pavey asked for financial backing to pursue a new line of CV axles. Again, he was denied. Soon thereafter, Pavey was fired from ARI, with no official explanation from the company.

With Pavey’s departure, former ARI chairman Bob Smith, who had retired in April 2004, returned. Smith’s son, CCT Co-founder Robert Jr., also joined the company, along with a new CFO. Smith’s plan was to downsize the company, eliminate product lines and focus on reman. Considering what followed, the return of the Smiths was not enough to right the sinking ARI ship.

On Nov. 7, 2005, ARI announced that it was instituting a comprehensive restructuring plan, which included the filing for relief under Chapter 11 with the U.S. Bankruptcy Court in the District of Delaware. In the filing, the company cited its debt structure, increased industry pricing pressures, higher operating and material costs and foreign competition, as its justifications for filing. The company also noted that no interruptions in ARI’s manufacturing operations were expected. As part of its restructuring, ARI said it was negotiating the sale of the company and its assets. The sale would have been conducted through an open bid process and would have ensured the continuity of ARI business operations.

Financially, things did not look good for ARI, and did not reflect the “strong financial position” described by Smith just two years earlier. The company listed assets of $10 million to $50 million and debts of more than $100 million. The company sought court approval to sell itself for about $30 million, subject to higher bids at auction.

According to the Associated Press, some of the lenders, led by units of Black Diamond, agreed to provide a $31 million debtor-in-possession loan, provided the company put itself up for auction.
Then disaster struck: Nine days later, ARI ran out of money. ARI went back to court requesting emergency conversion to Chapter 7 bankruptcy protection after its debtor-in-possession lenders said they were unwilling to consent to the use of cash collateral for funding operations beyond Nov. 21. The court granted ARI its request and ordered that all ARI operations were to cease as of Nov. 21 at 2 pm. Included in the motion were ARI and nine subsidiaries, including ARI Holdings, Inc., American Driveline Inc., ATSCO Products, Inc., Automotive Caliper Exchange, Inc., CCT, Klickitat, Inc., New ABS Friction, Inc., New Driveline, Inc. and Ohio Caliper.

In court that day, more than 1,600 employees immediately lost their jobs. The Orange County Register reported that approximately 300 employees at the Anaheim, CA,  plant, for example, were gathered for a meeting and told the company had gone out of business. The employees were then given five minutes to gather their belongings and leave.

ARI was no longer a functioning company. Scooping up the remains was the former debtor-in-possession, Black Diamond, which announced that an entity it managed had executed an agreement to purchase selected assets held by ARI’s bankruptcy estate. These assets included some of ARI’s operations on the East and West Coasts, including CCT, which today operates under the name Automotive Aftermarket Group, with the Smiths as part owners.

Some theorize that the Smiths, along with Black Diamond, intentionally bankrupted the company to release it from ARI’s core liabilities. Smith completely disagrees.
“That’s probably the most insane thing that anyone would ever think,” said Smith. “We fully knew that if this company went into Chapter 7, there would be nothing left. We knew it had to go into Chapter 11 and we told all the customers that it was going to get restructured and it wouldn’t affect them. Then, because the secured and unsecured lenders couldn’t agree, there was a gun battle in court and we got hit. My son and I had the most to lose. If you think we would do that to get rid of the core liabilities, you’d have to be out of your mind.”

So, what killed ARI? This is not a simple question to answer, and there are multiple reasons, depending on whom you ask. Certainly, ARI was a highly leveraged company, one with many fiefdoms that never really considered themselves as part of a larger entity, none pulling in the same direction, especially when things took a turn for the worse. There were also significant market forces, both domestic and foreign, and changing customer demands that greatly affected ARI’s reman CV axle and brake businesses. The loss of some key customers hurt ARI’s already-tight cash flow. Some have speculated that in light of these situations, ARI’s private investors either underestimated the kinds of investments that would be required to overcome these challenges, or understood them, but were unwilling to make the investment. Smith says the problems were not fixable by the time he returned to the company in May, 2005.

“The company had been run poorly for the last couple of years and got way ahead of themselves in debt. They really fouled up the business model we had,” said Smith. “Cores were a significant contributor to it, but failing to recognize that China was a threat significantly impacted the business. And then, a myriad of management errors contributed to the demise of the company.”

Many former ARI employees continue to defend Pavey, saying he was put in a no-win situation from the very beginning. His efforts to take the company in a different direction were met with resistance from those who held ARI’s purse strings, and it is very likely that ARI’s problems were already too great by the time Pavey arrived at the company in April, 2003.

There were certainly many internal factors that lead to the collapse of ARI. Indeed, troubled mergers and internal accounting problems are not new in business. But for the industry at large, ARI’s story poses broader questions about foreign competition and the market’s ability to adapt to today’s rapidly changing global dynamics. Increasing competition from China, India and other developing nations is fundamentally changing manufacturing and sourcing practices; reman is merely among the first group of products in the developing world’s crosshairs. It’s a new world in the aftermarket, both literally and figuratively. Companies that choose to adapt will prosper; those that don’t will fall into the same tragic situation in which ARI ultimately found itself.  

Editor’s note: The author has honored requests that certain individuals interviewed for this article remain unnamed.

While ARI ultimately failed in its battle, others are trying to make reman an important product category for the automotive aftermarket. In the next issue, we will investigate reman’s future and how U.S.-based remanufacturers and distributors are trying to make reman fit into an increasingly new world.













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