Rent-Way Slides Away

Near midnight on a Friday in 2000, William E. Morgenstern, the chief executive of Rent-Way, one of the nationals largest rent-to-own retailers, received a call from a woman who warned him that the company he had built from scratch was about to fall apart. In the days before that call, Morgenstern had been scrambling to reconcile discrepancies he had discovered in Rent-Ways books. Since its founding in 1981 in Erie, Pennsylvania, Rent-Way had grown into a national powerhouse by renting furniture and electronics to low-income consumers through more than 1,100 stores. The stock price had tripled since its initial offering in 1993, propelling dozens of Erie families who had invested in the company to sudden wealth.

When he discovered the accounting problems, Morgenstern initially hoped for a quick explanation. But interviews with executives led to more questions. Then came the midnight phone call: a weeping employee told him that, for three years, Morgensterns top deputies had forced her to cook Rent-Ways books. Morgenstern then called the companys lawyer in panic. What, he asked, should they do?

It was the darkest moment of my life, said Morgenstern, who stepped down as Rent-Ways chief executive in 2005, retaining the chairmans post. I started this company at 22 after three years of college. It represented all of my wealth. I tried to make the right decision at every juncture, but we had to pay a terrific price.

Rent-Ways board made a decision within days of detecting the fraud Morgenstern called the Securities and Exchange Commission and revealed everything. The company would turn over documents typically protected by attorney-client privilege, he said. He then invited the SEC to conduct an on-site investigation. There was a stunned silence from the regulator, said one participant in the call.

At Rent-Way, executives hoped that openness would contain the damage. The company had experience confronting criticism. For years, consumer advocates had attacked the rent-to-own industry as predatory, complaining that the businesss rough and tumble practices focused on low-income, unsophisticated customers and included exorbitant fees to rent appliances.

We were committed to not letting this company be brought down by a small group of people engaged in criminal activity, said William Lerner, a Rent-Way director and former SEC official. We were determined to do everything as morally and ethically as we could.

A financial restatement turned a cumulative $45 million profit from 1998 to 2000 into a $35 million loss. The news pushed Rent-Ways stock price into a free fall, down from $30 to $3.25 in two months. Some board members raised the possibility of declaring bankruptcy. Others suggested selling the company to a private equity group.

Anger mounted in Erie toward Rent-Way. Walking through a local supermarket, a shopper confronted Morgenstern and shouted that he could not afford groceries because his portfolio had disappeared. Anonymous callers made threatening phone calls to Morgensterns home. His children asked to stay home from school because teachers told them that their father was a crook. Morgenstern fought suggestions to sell. Our employees had invested their entire life savings and would have been wiped out, he said. If I ran away, I would have regretted it for the rest of my life. At Rent-Ways annual convention in Las Vegas, four months after the fraud was revealed, Morgenstern promised that the company would survive, and would emerge stronger than ever. A year after the fraud emerged, revenue had rebounded, increasing by 10 percent. However, Rent-Way had to refinance because of the fraud. Even as revenue grew, the company had to pay interest on debt at a high interest rate because of the scandal.

The United States attorneys office in Erie, which successfully prosecuted three Rent-Way executives for criminal fraud, commended Morgensterns openness as a good example of how a company can alleviate the consequences of misconduct by fully and openly cooperating with the government. Nevertheless, Rent-Ways stock price refused to budge and interest payment commanded more and more cash. Some argued that Morgenstern was responsible for allowing a culture of fraud to flourish, regardless of his lack of involvement. He wondered if his staff construed his relentless cheerleading about beating stock market expectations as encouragement to break the law.

To help with the credit crunch, almost 300 stores were sold to Rent-A-Center, its biggest rival. Four years later Rent-Way opened fifty-four new stores; income grew, and the stock began to inch higher. Soon, hurricane damage closed 25 percent of Rent-Way stores in the Southeast. An increase in gas prices made it harder for low-income people to spend money on televisions and sofas.

Despite increasing its operating revenue by more than 300 percent since the fraud was revealed, Rent-Way was sold to Rent-A-Center for $567 million. A stock owned one day before the fraud broke was worth 35 cents on the dollar six years later. After the sale, Morgenstern said: I did everything that I thought was right, but in some ways it didnt matter. This wasnt a broken company. And when I found illegal activity, I exposed it. But that shouldnt have ended a great company. I dont know what else I could have done.

Questions:

Is there an ethical issue in this case? Explain your answer.

What might leadership at Rent-Way have done to prevent the accounting irregularities that brought the company into disfavor?

What else might Morgenstern have done to help his company recover from the scandal?

Who were the stakeholders in this case and what was the impact of the scandal on them?