The very strange goings-on surrounding USCF and Chess Cafe’s current deal
form the subject of this week’s investigation by the doughty Parrot, who has
discovered....
That two bids were received by USCF for it’s Books and Equipment business,
and one the bid from chess4less.com from Florida was better than the other
by over $100,000 for the first 3 years’ commission. This was not the
bid chosen by the board.
The same company had offered $250,000 (minimum payment with 12.5%
commission) in 2003, but was outbid by Chess Cafe with $350,000 ( at 13.5%
after the former’s bid had been made public ) – which Chess Cafe was
subsequently unable to pay, and current estimates are of about $250,000 owed
to USCF. Chess Cafe was not even placed in default for several months
after failing to make payments after Chess Cafe stopped paying in April 2005
when the debt then was $180,000.
The USCF board attempted a compromise by forgiving a large chunk of the
money owed, and offered Chess Cafe a new contract until 2008 – which was
rejected by Chess Cafe! USCF had then offered Chess Cafe the deal it
wanted, extending the contract to 2012, even though it already had a better
counter-bid.
Now – the question for a public trust combining with a commercial business,
is which business can objectively best perform in the market place, and even
though Chess Cafe’s marketing is universally admitted to be not very good,
and it seems to have blacklisted many popular authors, it has not been able
to pay its way before, and even though there is a better bid, USCF have
still chosen Chess Cafe to represent it’s B&E sales.
There has been no public discussion of these issues, and the membership have
not been informed of the decision or the process by which it was taken.
So TheParrot posed the following questions to current USCF Executive
Director Bill Hall:
Instead of answering any of these questions, Hall kicked it up to the
Executive Board for a response. Here is what TheParrot received:
So the questions
remain. TheParrot understands the need for confidentiality in business
negotiations, but with a public entity like the USCF there needs to exist a
transparency in the process at least so that it's members can ascertain that
their representatives are in fact, representing them (the membership).
Why must the process of selecting a contractor be such a big secret?
The distinction is between the process and the details of the negotiations,
which TheParrot has already acknowledged should remain confidential until
the deal is finalized.
The last USCF
election seemed to be about just such issues - transparency and honesty in
governance. The previous administration was rejected by the voters, at
least in part, because of a perceived lack of those vital elements, or so it
seems to TheParrot. Yet here we are, once again, with an apparently
secret process in use to select the B&E vendor for the future. This is
such a vital source of revenue for the USCF, it is hard to understand just
why the Board and it's new ED have chosen to operate in this way. It
will be interesting to hear their version of events, if and when it is ever
made officially public. Meanwhile TheParrot will continue to research
the issue, and update you when more information becomes available. To
the USCF members TheParrot can only repeat that old wisdom -
caveat emptor - let the buyer beware!
Howard S. Sample
writes in to say:
USCF BOOKS AND EQUIPMENT
OUTSOURCING: A REPORT
by Bill Goichberg
USCF first invited
bids for the outsourcing of its books and equipment business in 2001. Hanon
Russell of ChessCafe submitted the bid that was considered best, but after
discussions between Russell and USCF President John McCrary, the Federation
decided to remain selling its own books and equipment.
In 2003, USCF
again called for B&E outsourcing bids, and this time the Board considered
the bid submitted by Malcolm Pein to be best. VP of Finance Tim Hanke was
appointed to negotiate with Pein, but also authorized to contact other
vendors. He apparently spoke only to Pein, and presented a contract for
Board approval at its January 2004 meeting. I was USCF Office Manager at the
time and would be named Executive Director at that meeting.
The Pein proposal
offered a 12% base commission, no minimum guarantee, and required USCF to
provide six pages of free advertising in each issue of Chess Life. I thought
we could do better, and in view of Russell's strong bid two years before,
asked Hanke if he had contacted Russell.
He had not, and
didn't object to me doing so. Russell expressed strong interest, but it was
only a few days before the meeting and he needed more time to prepare a bid.
At the meeting, the Board postponed a decision and allowed me three weeks to
negotiate with vendors.
I suggested to
bidders that a substantial guarantee was justified based on USCF's sales
figures (over $2.8 million) for its most recent fiscal year, 2002-2003, and
these negotiations resulted in three bids that all appeared far superior for
USCF to the original Pein bid. However, none of the bidders offered a
personal guarantee of payment and I should have requested this.
Pein improved his
offer with a $250,000 guarantee, but Russell offered a $350,000 guarantee,
and another bidder even more. Russell offered the highest base commission
with 13.5% followed by Pein with 12%, and all accepted paying USCF's cost
price for Chess Life advertising.
An important issue
for the Board was whether the outsourcer would run a separate non-USCF
retail business in competition with USCF. Russell offered to merge his
existing retail sales with those of USCF and promised to do 100% USCF retail
sales only. The other two major bidders declined to do this, intending to
continue their separate non-USCF retail businesses.
The Board
unanimously selected ChessCafe, and a contract was signed expiring in 2007,
with the vendor having an option to renew for five more years.
However, Tim Hanke,
though voting for the contract, said that the $350,000 minimum guarantee was
much too high and doubted that ChessCafe would be able to pay it.
Unfortunately, Tim proved correct as first year sales were only about $1.32
million, less than half of USCF's reported sales for 2002-2003.
I found Russell
easy to work with, and he helped USCF in a number of ways not mandated by
contract, for example: 1) Making a $15,000 payment for April 2004 sales a
month early on request to help USCF's cash flow, and offering to do the same
for May 2004 (but the federation no longer needed this help then), 2)
Filling back orders that USCF could not handle and requiring no payment for
many months, 3) Sponsoring the USCF Grand Prix, the first corporate
sponsorship for this event since 1998, 4) Encouraging suppliers to advertise
in Chess Life, 5) Referring a sponsorship lead to USCF, 6) Mailing 40,000
catalogs to schools at ChessCafe's expense, 7) Permitting USCF's "Warehouse
Clearance Sale," which under the terms of the contract he could have
forbidden.
As USCF Sales
under ChessCafe offered much faster service than USCF had done previously, I
expected sales to increase, and was shocked when they were less than half of
expectations right from the start, with only modest improvement after that.
Several hundred thousand dollars of sales were lost because Russell was too
busy setting up his mail/web/phone operations to sell at the spring 2004
National Scholastics, but even taking this into consideration, the numbers
were poor. Russell expressed the opinion that there must have been a mistake
in USCF's records and 2002-2003 sales could not possibly have been over $2.8
million, but he did not push the point and no action was taken to review the
accuracy of those figures. It eventually came to light that the $2.8 million
number Russell had been given by USCF included shipping and handling charges
as well as sales, so the actual sales number for 2002-2003 was about
$400,000 less than he was led to believe.
Other factors
suggested by Board members as possibly contributing to poor sales included:
1) Unusually aggressive competition from discounters, 2) Customers going
elsewhere after hearing that USCF was no longer doing the sales, 3)
Inadequate marketing by ChessCafe.
On March 31, 2005
ChessCafe completed its first full outsourcing year, having paid commissions
to USCF of $177,000. An additional $173,000 was apparently due to USCF for
the first year of the guarantee. When the Executive Board met in May,
Russell told them that ChessCafe already had a substantial loss even without
the $173,000 payment due, and was not able to continue in business as USCF
Sales unless the contract was renegotiated. He also said that he would cease
making monthly payments until a new contract was signed, and offered to
place such payments in escrow. However, if he had placed money in escrow, he
could have subsequently prevented its release by not agreeing to a modified
contract.
The withholding of
the monthly commissions was intended to produce immediate Board action
regarding renegotiation, but this tactic may have been counterproductive.
Both the existing Board and the new one installed in August appeared
supportive of renegotiating to help our partner stay in business under
unexpectedly difficult circumstances, but the cessation of the monthly
payments became the prime argument against continuing to do business with
ChessCafe. Don Schultz, who was on both the new and old Boards, supported a
substantial restructuring of the contract to assist ChessCafe until the
monthly payments were halted, at which point he became strongly opposed to
continuation of the ChessCafe contract. It should also be noted that
ChessCafe was not technically in default of contract provisions because to
produce default, USCF needed to give legal notice of default and await a 30
day cure period, and never gave such notice.
Negotiations with
ChessCafe then took place for several months without agreement. In July the
Board considered a proposal that resulted from talks between Beatriz
Marinello and Hanon Russell, which according to an email sent to that Board
by Bill Hall on 7/4/05, would have resulted in the following: 1) Minimum
annual guarantee reduced to $250,000. 2) ChessCafe pays $73,000 towards
first year to bring total paid up to $250,000. 3) ChessCafe retains
tournament sales rights. 4) Commission is reduced to 10% on the first $2.5
million and 13% above that figure. 5) ChessCafe exercises their option to
renew until 2012. Don Schultz argued that a decision should be left to the
new Board, and the Board agreed.
Beatriz Marinello
does not agree that the above paragraph accurately reflects the history of
renegotiation by the previous Board, and feels that we lack sufficient
information to reproduce the exact discussions and proposals that took
place.
When the new Board
was installed in August at Phoenix, we discussed a new offer from Russell
which included a 10% commission, found it unacceptable, and based on our
discussion, ED Bill Hall presented the Board with a memo listing suggested
terms for a counter offer along with some negotiating instructions. My
understanding was that I was to negotiate with Russell according to the
terms and instructions of the Hall memo and that if a satisfactory agreement
could not be reached within two weeks, Bill Hall would contact other
vendors. Don Schultz and Joel Channing disagreed with my understanding of
the situation, and felt that Hall was asked to immediately contact other
vendors.
The Hall memo
included these changes:
1. USCF to excuse half of ChessCafe's $173,000 debt for the first
outsourcing year.
2. The commission on the first $2 million in sales to be lowered from 13.5%
to 12%. The commission on sales over $2 million to remain at 15%.
3. ChessCafe, which under the existing contract had an option to renew for
five more years (4/1/07 to 3/31/12), would be required to exercise that
option.
4. The minimum annual guarantee after year one to be reduced from $350,000
to $150,000.
5. ChessCafe to give up all tournament sales rights effective 1/1/06; these
rights will return to USCF which will offer them for bidding. (Note: We
estimate that by bidding out these rights we will probably earn at least
$60,000).
I presented an
offer to Russell that was slightly more favorable to USCF than the minimum
authorized by the Hall memo, and after he suggested changes and I did the
same, we agreed to recommend to the Board an agreement modified in a way the
Board had not anticipated. One change not requested by the Board that I
asked for and Russell agreed to was to provide a personal guarantee of
ChessCafe's annual minimum payment. The Board's reaction to this new
proposal appeared negative. Meanwhile, some Board members urged Hall to
contact other vendors and he did contact five major B & E retailers, saying
that we might be taking bids and inviting them to make offers. Only one of
these, Malcolm Pein, expressed interest in bidding to run USCF Sales
overall, although several others were interested in tournament sales rights
only.
Russell expressed
disappointment that the Board seemed unwilling to accept the agreement he
and I had discussed and was not making a counter proposal. He asked whether
there was any Board offer which, if he accepted it, would resolve the
matter. I replied by again presenting the original Board proposal based on
the Hall memo, with Russell's personal guarantee added, and Russell agreed
to these terms.
I thought the
matter was settled, but those opposed to the agreement argued that we were
not bound by our offer. A Board conference call was scheduled for September
18 to vote on the proposed agreement.
Arguments made for
the agreement included:
A) Market conditions had changed, competition had become far more intense,
the $2.8 million 2002-2003 USCF sales number bidders had relied on was not a
realistic expectation, and it would be in our interest to help our
outsourcing partner succeed.
B) We made an offer and we should stand behind it.
C) If we switched vendors, it was unclear how much we could collect from
ChessCafe of the approximately $235,000 they appeared to owe us. Taking
legal action against this corporation to collect might result in their
bankruptcy. Also, it was too late to change vendors without severely
impacting the holiday sales season.
D) When we switched from USCF to ChessCafe in April 2004, sales immediately
collapsed even though USCF cooperated with the switch. A second switch from
ChessCafe to a new vendor would likely result in ChessCafe retaining some of
its customers, hurting USCF sales further.
E) The only other major vendor who seemed interested had a conflict of
interest, running several other B & E sales operations which would compete
with USCF.
F) Compelling ChessCafe to exercise its option to renew for five years
(2007-2012) was favorable for USCF, as otherwise ChessCafe would likely
renew if sales were good but try to negotiate a better deal if they were
not.
Arguments made
against the agreement included:
A) We should no longer deal with Russell because his withholding of payments
was unethical. (All Board members agreed that the withholding of payments
was improper, but some felt that we should go ahead with the agreement
anyway. It was also argued that we knew he was withholding payments when we
made our offer.)
B) We were not bound by our offer because Russell's withholding of payments
was unethical.
C) We were not bound by our offer because Russell had rejected it. (It was
disputed that he had rejected it).
D) Another vendor could promote sales more effectively.
E) We could switch vendors without significantly hurting sales.
F) The deal was unacceptable because Russell had offered a better deal to
the previous Board which that Board did not accept.
G) Requiring ChessCafe to renew until 2012 was unfavorable for USCF because
we don't want them to renew.
At the September
18 call, the following motion was introduced:
06-017 Bill Goichberg) The contract between USCF and ChessCafe shall be
modified as follows:
1. ChessCafe relinquishes the rights to sell at all national tournaments
after 12/31/05.
2. USCF accepts $86,500.00 from ChessCafe to settle all obligations between
ChessCafe and USCF through March 31, 2005. The $86,500.00 shall be paid as
follows: $43,250.00 upon the signing of the revised agreement and $43,250.00
within one year thereafter.
3. ChessCafe immediately pays commission fees to USCF for April, May, June,
and July 2005 at 13.5%.
4. From August 1, 2005, the commission rates will be 12.0% on the first
$2,000,000.00 and 15.0% on sales above $2,000,000.00.
5. ChessCafe may bid for the sales rights at tournaments run by USCF, or
sell its products at tournaments not run by USCF. For tournaments run by
USCF, the commission rate to be paid to USCF is to be negotiated. For
tournaments not run by USCF, the commission rate to be paid to USCF will be
5%. All sales at tournaments are considered to be part of the overall sales
referred to in #4.
6. Guarantee for all years of the contract after the first is reduced to
$150,000.00.
7. ChessCafe exercise the option to extend the contract through March 31,
2012.
8. Contract subject to Tennessee Law.
9. ChessCafe will pay the legal fees incurred by the USCF connected with the
revision of this agreement, provided that ChessCafe’s obligation shall be
limited to $1,000.00 in such fees.
10. Hanon Russell will personally guarantee the $150,000.00 minimum annual
payment for the duration of the contract. He will also provide a
representation that his personal net worth is between $1.5 million and $2
million, and is willing to show Bill Goichberg or Bill Hall his personal
financial statement (but not transmit a copy) on the condition that the USCF
representative viewing the statement not reveal details to anyone, and only
report to the Board their conclusion regarding his net worth.
11. Upon a Board vote in favor of this motion, ChessCafe shall send checks
to Harry Sabine to hold on behalf of the USCF for the April through July
2005 payments and the first half of the $86,500.00 due. Harry Sabine will be
authorized to release these funds to USCF upon the signing of the revised
contract.
12. The Chesscafe sponsorship of the Grand Prix will for the present time
not be extended for 2006. Future talks between USCF and ChessCafe are
envisioned with the objective of continuing this sponsorship.
Robert Tanner was
absent from this call. The motion failed on a 2-2 tie vote with
Goichberg and Shahade in favor, Channing and Schultz opposed, and Marinello
abstaining.
Joel Channing then
moved a similar motion, but with the agreement expiring in May 2008.
06-018 (Joel Channing) The contract between USCF and ChessCafe shall be
modified as follows:
1. ChessCafe relinquishes the rights to sell at all national tournaments
after 12/31/05.
2. USCF accepts $86,500.00 from ChessCafe to settle all obligations between
ChessCafe and USCF through March 31, 2005. The $86,500.00 shall be paid as
follows: $43,250.00 upon the signing of the revised agreement and $43,250.00
within one year thereafter.
3. ChessCafe immediately pays commission fees to USCF for April, May, June,
and July 2005 at 13.5%.
4. From August 1, 2005, the commission rates will be 12.0% on the first
$2,000,000.00 and 15.0% on sales above $2,000,000.00.
5. ChessCafe may bid for the sales rights at tournaments run by USCF, or
sell its products at tournaments not run by USCF. For tournaments run by
USCF, the commission rate to be paid to USCF is to be negotiated. For
tournaments not run by USCF, the commission rate to be paid to USCF will be
5%. All sales at tournaments are considered to be part of the overall sales
referred to in #4.
6. Guarantee for all years of the contract after the first is reduced to
$150,000.00.
7. The contract will be modified so the option date is May 31, 2008 and the
decision will require the approval of both parties.
8. Contract subject to Tennessee Law.
9. ChessCafe will pay the legal fees incurred by the USCF connected with the
revision of this agreement, provided that ChessCafe’s obligation shall be
limited to $1,000.00 in such fees.
10. Hanon Russell will personally guarantee the $150,000.00 minimum annual
payment for the duration of the contract. He will also provide a
representation that his personal net worth is between $1.5 million and $2
million, and is willing to show Bill Goichberg or Bill Hall his personal
financial statement (but not transmit a copy) on the condition that the USCF
representative viewing the statement not reveal details to anyone, and only
report to the Board their conclusion regarding his net worth.
11. Upon a Board vote in favor of this motion, ChessCafe shall send checks
to Harry Sabine to hold on behalf of the USCF for the April through July
2005 payments and the first half of the $86,500.00 due. Harry Sabine will be
authorized to release these funds to USCF upon the signing of the revised
contract.
12. The Chesscafe sponsorship of the Grand Prix will for the present time
not be extended for 2006. Future talks between USCF and ChessCafe are
envisioned with the objective of continuing this sponsorship.
13. USCF reserves the right to not agree to the revised contract if we find
the audit to be unsatisfactory.
This passed 4-1,
with Channing, Goichberg, Marinello and Shahade in favor and Schultz
opposed. However, Russell found the terms unacceptable, saying that he
had agreed to the Board's offer which included 2012 rather than 2008.
Several weeks of
further Board discussion followed. Pein submitted a bid but then withdrew,
and another conference call was scheduled for Oct 8. I thought the motion
that had ended in a tie vote on Sept 18 would now pass easily. However, a
few hours before our call, we received an improved proposal from Pein with
the same guarantee as ChessCafe but a slightly larger percentage. This
proposal, a 3 year agreement, called for USCF to receive the same commission
as the ChessCafe agreement with up to $1.167 million in sales, and annually
$12,500 more on $1.25 million, $20,000 more on $1.5 million, $27,500 more on
$1.75 million, and $35,000 more on $2 million or more.
This new proposal
also attempted to address the conflict of interest issue by offering USCF a
commission on any increase in sales by Chess4Less, a competing business
owned by Pein. This appeared to satisfy some Board members, but I remained
concerned about the conflict of interest issue, and believe that it should
be a requirement for our outsourcing partner to fold all existing retail B &
E business into USCF Sales and to represent USCF only.
At the Oct 8
conference call, the ChessCafe motion was on the agenda and Channing moved
to substitute a motion to consider the Pein proposal instead. This failed on
a 3-3 tie vote with Channing, Marinello and Schultz in favor and Goichberg,
Shahade and Tanner opposed. The ChessCafe motion then was voted on and
failed to pass 2-3 with Goichberg and Tanner in favor, Channing, Shahade and
Schultz opposed, and Marinello abstaining. After some discussion, Channing
broke the deadlock by moving to accept the ChessCafe motion with some
changes: 1) USCF would send a CPA to audit ChessCafe's records and the audit
would have to be acceptable, 2) In the event of default by ChessCafe, the 30
day default period and cure period would be reduced to 15 days, 3) The
contract would be extended to 2009, with automatic further extension to 2012
if all of ChessCafe's payments were timely. This motion passed 5-1 with
Schultz opposed.
Hanon Russell,
though objecting that the Board having already made an agreement should not
ask for new conditions, accepted the changes. Grant Perks was sent to
Connecticut to do the ChessCafe audit and reported that everything seemed in
order. Grant also pointed out that USCF's sales records included shipping
and handling charges as part of gross sales. This seems an odd practice, and
one I was unaware of; I inadvertantly had probably caused all the bidders in
2004 to overbid by reporting the numbers to them as being simply sales.
An addendum to the
existing contract was then prepared by the attorneys for each side. Channing
favored allowing USCF to cancel the extension from 2009 to 2012 on any late
payment by ChessCafe with no cure period, and opposed the agreement because
a cure period still applied.
The final version
was approved by the Board on November 21 by a vote of 4-2 with Schultz and
Channing opposed.
Don Schultz and
Joel Channing have has submitted the following statements, which I believe
well explain the thinking of Board members in opposing, or being reluctant
to approve, the ChessCafe agreement.
STATEMENT BY DON
SCHULTZ:
I understand and respect the reasons why my fellow Board members decided to
go with a revised B and E contract with Chess Cafe. Nevertheless, I must
point out why I disagreed with and argued so vehemently against that
decision.
Chess Cafe
withheld payments to us for approximately a quarter of a million dollars. It
was clear to me this was done to intimidate us into agreeing to a revised
contract more favorable to them. I believe we acted under duress. I also
believe that there was a reasonable alternative on the table submitted by
Malcolm Pein. I further am concerned over Chess Cafe's ability to expand our
B and E business to its full potential.
Having said that,
I hope everything works out well and wish our partner success.
STATEMENT
BY JOEL CHANNING:
I have mixed emotions about the outcome of the ChessCafe matter, but I do
believe that the Board members acted in good faith throughout the lengthy
and sometimes heated debate. Due to the lack of a substantive guarantee, the
original agreement was flawed from the start, which, in turn, allowed the
subcontractor to create leverage against us by withholding payments. USCF,
including this and the previous Board, might not have acted as quickly and
decisively as it could have, thus allowing the leverage of the subcontractor
to grow. I disagree with much of the rationale contained in the
above-presented Board statement, but, overall, it is a correct presentation
of the chronology and actions taken to settle the matter.
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