Return on Warranties: $1.2 Billion
Dulles Firm Founded on Law Student's Credit Card Is Sold

By Terence O'Hara
Washington Post Staff Writer
Wednesday, August 9, 2006

N.E.W. Customer Services Cos., started 23 years ago by a law student trying to pay his bills, was sold yesterday for $1.2 billion. The little-known Dulles company, which over the past five years has become the biggest independent provider of extended-service warranties for thousands of consumer products, was bought by a Boston private equity fund.

N.E.W. has more than tripled in value in two years, making hundreds of millions of dollars for its financial backers and senior management under Chairman Fred Schaufeld, who founded it using his credit cards -- and dropped out of law school.

Although the company did not release revenue or profit figures for the past year, company executives say revenue has grown more than 35 percent in each of the past three years, which would put its annual revenue at about $400 million.

The new owner is Berkshire Partners LLC, a Boston private equity fund that specializes in investing in private consumer products companies. Los Angeles firm Freeman Spogli & Co. also invested.

The seller was not Schaufeld but a private equity group led by venture capital firm TH Lee Putnam Ventures, which bought the firm two years ago in a deal that valued N.E.W. at $370 million.

Schaufeld said he and his senior management will retain a stake in and continue to manage N.E.W. Schaufeld, who sold a large part of his ownership in the 2004 TH Lee buyout, declined to say how much of the company he had retained.

N.E.W. is an administrator of extended-service warranty and replacement contracts, selling them through dozens of retailers such as Wal-Mart, Best Buy, Lowe's and Ritz Camera. It covers most consumer products that can malfunction or break, including microwaves, Game Boys, bikes, iPods, power drills and printers.

A typical contract can cost anywhere between a few to several hundred dollars and kicks in after the manufacturer's warranty ends. The extended warranty will allow a product to be replaced or repaired for several months to years in the future, depending on the type of product.

N.E.W. has 3,000 employees, most of them at six U.S. call centers. About 123 employees work at its headquarters near Dulles International Airport.

Schaufeld, 46, started the company when he was an American University law student. His first customer was a now-defunct electronics store in Rockville. Trying to earn money for tuition and living expenses, he took a job selling extended warranties for another company.

"I did some research on the laws covering this business and realized the company was breaking every one of them," Schaufeld said. "I knew there had to be a better way to do this."

Founded in 1983, N.E.W. -- the company's old name was National Electronics Warranty -- was financed by Schaufeld's credit cards and money from family and friends. Profitable early on, its growth has accelerated since 1999, when Schaufeld began hiring a crew of seasoned sales, operations and financial executives. It raised its first venture capital in 2000 in a small deal led by Bethesda's Novak Biddle Venture Partners.

Schaufeld and Tony Nader, chief executive, said recent growth was fueled by the influx of talent, expanded product coverage and stolen business from the insurance companies that are the largest underwriters of such warranties.

Consumers pay about $15 billion a year in premiums on extended warranties, according to industry publication Warranty Week.

Critics argue that the risk of a product breaking is rarely worth insuring. For a $2,000 home theater system, even a one-time premium of $20 is, statistically speaking, a waste of money.

"I think people are behaving irrationally when they buy these things," said David Cutler, professor of applied economics at Harvard University. "For most people, at the level they spend on these products, it's not a risk you need to insure."

Schaufeld says he's not selling insurance but convenience and assurance that the product will be fixed or replaced quickly.

"We have spent 23 years making sure it's a good product and not a rip-off," he said. "The reason we do it is to save time. . . . There are consumers who are perfectly happy to fix this stuff or replace it on their own. It's not a product for them."

Retailers get a cut of the premium -- the industry norm is 50 percent -- and, if they're pleased with N.E.W.'s service, a loyal customer.

N.E.W. paid more than $400 million in claims to 4 million customers last year. The firm works with three major insurance companies who take on the financial risk, and most of the claims money goes to a network of 25,000 independent service technicians.

Of the firm's financial backers, the biggest winner is Novak Biddle, a small venture capital firm that typically backs small, start-up technology companies. The firm's investment of under $2 million has returned 87 times back to the fund's investors. Yesterday, partner Jack Biddle was sending out millions of dollars' worth of checks to the fund's investors, proceeds from the N.E.W. sale.

"It's pretty cool," Biddle said.