HOW DO YOU HANDLE EXTRAORDINARY GROWTH? By JANET WHITMAN DOW JONES NEWSWIRES THE PROBLEM: How do you deal with extraordinary growth from a major acquisition? In 1995, while Glenn Campbell and Scott Molander were managers at Indianapolis outlets of the sportswear chain Foot Locker Inc., they had an idea for a business of their own: a retail shop selling only sports caps. Hats were "a category with a hole in it," says Mr. Campbell. "We'd always see people come in and want a Broncos hat or an Eagles hat, but Foot Locker carried only [big, nationally popular brands] and local brands. Colts and Cowboys, that's about it." When the pair started discussing the idea, "people thought we were crazy," Mr. Campbell recalls. Undeterred, the two colleagues wrote up a business plan and set out to find a mall developer willing to rent them space. Several months and about a half-dozen rejections later, the enthusiastic entrepreneurs found a sympathetic mall owner and opened their first Hat World Inc. store during the busy pre-Christmas season. With no idea how their new business would fare, Mr. Molander kept his job at Foot Locker while Mr. Campbell ran the new business. The store took off immediately, selling more than 6,000 hats in the first eight weeks. The early success -- and some encouragement from the mall owner -- inspired the partners to forge ahead. They opened four more shops in their first year, and each quickly turned a profit. The winning formula caught the eye of a venture-capital investor, and by the end of 2000 -- within five years of opening the first shop -- Hat World (www.hatworld.com) had expanded to 157 stores across 32 states. The partners had also brought in some help managing the sprawling operation: Jim Harris, their former boss's boss at Foot Locker, who took the helm as Hat World's president and chief executive. Then, in 2001, came an opportunity for growth that was big even by Hat World's meteoric standards. Lids Corp., a much bigger competitor based in Boston, was going under -- presenting a tempting opportunity for Hat World to purchase its stores. The deal would nearly triple Hat World's size overnight to more than 400 stores and expand its reach to 47 states. But Hat World would also be taking on the formidable problems that sank Lids. THE SOLUTION: Hat World's first job was to find a leader who could run the merged company -- nobody on the management team at the time had experience with such a big operation. The team zeroed in on Bob Dennis, a 13-year veteran of the retail practice at New York management-consulting firm McKinsey & Co. One of Hat World's financial backers had called on Mr. Dennis to help size up the potential deal with Lids. Mr. Dennis helped Hat World sift out which stores it would acquire, hunting for those with profit potential and rejecting the rest, and sealed the $16.5 million deal in April 2001. Then, after struggling with some reservations about moving his family from New York to Indianapolis, Mr. Dennis took the reins of the merged company. "We woke up [as] owners of 262 Lids stores of the 388 in bankruptcy," says Mr. Dennis. "Two of those we bought got closed down within a month, so we ended up with 260 new stores." Then it was a mad scramble. Essential Lids personnel, mainly store managers, were offered bonuses to stay on under Hat World. "It was very important to make Lids employees feel like we were able to lead them out of the morass," says Mr. Dennis. Next came the question of inventory. "All of the stuff that was any good had sold," says Mr. Dennis. "When we finally got in there, all we had was stuff that no one wanted." For example, before it filed for bankruptcy protection, Lids had a nationwide promotion on blue hats, offering thousands of caps -- no matter what the sport or team -- in Carolina blue. When Hat World took over, each Lids store had an average of a couple of hundred blue caps gathering dust. "That was the single biggest clearance item we had to deal with," says Mr. Dennis. At the same time, there was no good merchandise coming in to fill the shelves. Lids had lost its usual vendors while it was sliding into bankruptcy; the suppliers wouldn't send inventory without some guarantee of payment, which Lids couldn't offer. "They were scrambling, using vendors that they'd never used before," Mr. Campbell says. "It wasn't the quality of product that they typically carried. It was stuff that you would carry at a discount store." Beyond restocking the stores, the Hat World team had to decide what to do about Lids' corporate philosophy, which was fundamentally different than their own. "Lids executives tended to be big spenders," says Mr. Dennis. "They were basically saying, 'Let's build this thing up so we can [draw] in public.' ... It created an unmanageable base. We're the opposite. We get done with a nickel what some get done with a dime." But Lids' big spending had helped create powerful brand recognition -- much stronger than Hat World's. In contrast to Hat World's no-frills outlets, Lids offered stylish stores that looked more like Gaps than mom-and-pop shops. And the company stocked its stores with private-label caps that said "LIDS Lacrosse" or "LIDS Baseball." The tradeoff was that Lids' national, cookie-cutter approach to merchandising meant the company often ignored potential big sellers. A Lids store directly across from the Daytona 500 speedway, for instance, didn't stock NASCAR hats because the management team in Boston thought the brightly colored caps were ugly. The transition was long and rocky. Even restocking the stores was a problem. Hat World had a great relationship with its own vendors, but it would take nearly a year to fill 260 almost-empty stores. "I don't think we could have imagined how empty the stores were," says Mr. Campbell. "It was like opening 260 brand-new stores, but having no time to plan. We had to do it on the fly." "We were getting letters from malls saying, 'You must make a reasonable effort to stay in business,' " says Mr. Dennis. "We just couldn't get enough product." A month after the merger, for example, Red Sox pitcher Hideo Nomo threw a season-opening no-hitter against Baltimore. But not one Lids store in the company's hometown had a Red Sox hat to sell. That kind of problem "happened all over the place," says Mr. Campbell. "There are certain things you better not run out of." Then there was the product mix. Hat World executives were pretty confident that customers would prefer their product mix over Lids' limited assortment of national and regional sports caps and tony private-label gear. But, to be safe, the management team did a test run in a Louisville, Ky., Lids store, dumping the old merchandise line and stocking up on items that would appeal to customers on a local level, adding an assortment of caps featuring sports teams from the University of Kentucky and the University of Louisville. Sales immediately shot up 30%. "We got the assortment much more attuned to the particular customer," says Mr. Dennis. The team used that shop as a template for the rest of the Lids stores, scrapping the Lids-branded items and stocking up on traditional caps. They also slashed most of Lids' enormous overhead costs and sacked all but two of the company's 90 head-office employees and executives. But, in other respects, the Lids culture won the day. Even though the Hat World team didn't care for the former owners' marketing budget, they liked the look of the stores and the cachet of the Lids name. So, all new Hat World stores will go by the Lids name and store model -- and, eventually, all Hat World stores will migrate to the Lids name. "We had our product mix right, but our store look and brand image were a year or two behind them," says Mr. Campbell. "The deal helped us catch up." The team has managed to put a pragmatic spin on the shift. "My CFO said that Lids has only four letters, so the signs will be cheaper," says Mr. Dennis. "That captures how we think here." And Hat World hasn't stopped growing. The company -- recognized by Inc. magazine as the 50th-fastest-growing private company in the nation -- opened 16 new stores in 2002 and has plans to launch another 40 to 50 shops in 2003. Meanwhile, the company picked up 14 new stores through its November 2002 acquisition of Hatzone, a competitor based in Kansas City, Mo. Since its acquisition of Lids, Hat World's sales have nearly quadrupled to $155 million. The company doesn't disclose its profitability, but says its operating profit margins are in the 5% to 10% range. Same-store sales, meanwhile, are up about 5% so far this year. THE LESSON: Don't be too wedded to the not-invented-here syndrome. In a major acquisition, you need to look hard at the pros and cons of the acquired company, avoiding the mistakes that company has made but making sure not to ignore its strong points. -- Ms. Whitman is a reporter for Dow Jones Newswires in New York. Derby Management 399 Boylston Street, Boston, MA 02116 Tel: 617-292-7420