Successful Business Turnarounds
preserve assets and jobs
By Denis Orme
President: Turnaround Management Association
Consistently over the past several years there have been approximately 4,500 New Zealand companies going into bankruptcy
or liquidation each year and impacting on the lives of over 30,000 New Zealanders. In my opinion between 5 - 10% of
those distressed companies have a clear differentiation and could successfully implement a strategy to restore
shareholder and creditor value, let alone preserve jobs.
However, in the New Zealand context I believe too little focus is placed on understanding the cause of the distressed
business. If done at an early stage the likelihood of a successful turnaround can be assessed.
What are some of the causes of these business failures?
Executives who run into corporate troubles often go through the same processes that dying people do: denial, anger,
depression and then finally acceptance.
The last stage is when corporations hire turnaround professionals, unless forced to do so earlier by a lender, equity
sponsor, or other interested party.
Owners or Managers who recognise and acknowledge the signs of trouble and get help in the earlier stages have a much
better chance of a successful recovery for their business.
Most businesses in distress will display more than one of these common signs of trouble:
Ineffective management style
The president and founder of a company is unable to delegate authority. No decision, big or small, can be made without
his or her blessing. As a result, the rest of the management staff is without solid experience or any feeling of
ownership. The board of directors may be nonparticipative or ineffective alongside the founder. If the president
suddenly becomes incapacitated or dies, the entire company is in danger of collapse.
Over diversification
The business has yielded to pressure to diversify to reduce risk. However, too much diversification has caused it to be
spread too thin. People and capital resources are short. As a result, the business becomes vulnerable to the
competition.
Weak financial function
The company may have excessive debt or inadequate capital and is operating with little or no margin for error. Credit
may be overextended and fixed assets and inventories excessive.
Poor lender relationships
Weak financial position has led to the company developing an adversarial relationship with its lending institution.
Fearing that its loan may be in jeopardy, the company may try to hide financial information from the bank. Phone calls
are not returned. Reports stop being filed or are late. Since money is the lifeblood of most any business, this kind of
lender relationship only leads to more trouble.
Lack of operating controls
The company is operating without adequate reporting mechanisms. This is like flying an airplane without an instrument
control panel. Management decisions based on old or inaccurate information can head the company in the wrong direction.
There are too few or the wrong KPI's and the company does not benchmark itself to others in the industry.
Market lag
Changes in the marketplace have bypassed the company, leaving it with sagging sales and lost market share. For some, the
deficiency is technology; their equipment or products and services have become obsolete - an obsolete business model.
For others, the problem lies in sales and marketing; the company hasn't kept pace with the needs of the marketplace.
Explosive growth
The business is growing rapidly. Growth costs cash. A business that is a success at $3 million in sales a year can
become a dismal failure at $7 million. Companies achieving fast growth from concentrating on boosting sales overlook the
effects of growth on the balance sheet. Growth often carries a very high price tag from not understanding economic
production run lengths, increased inventory requirements or even investments in R
Leveraging a company to such a degree means that management must operate with little or no margin for error.
In addition, growth may have led to overrunning the people capacity. Staff not able to work successfully at the new
level. For example, managing engineering operations for a company with 6 machines is much different than managing one
with 14 machines. The same challenge applies to others in key positions in marketing, sales, operations and
manufacturing. A company can grow beyond its internal ability to deliver.
Precarious customer base
The business relies on a few big customers for most of its sales. If a manufacturer selling to large retail chains has
two customers representing 60% of its business, the company is obviously vulnerable. The loss of just one customer could
put hundreds out of work and send the business into bankruptcy.
Family interests vs. business requirements
Family issues may be causing decisions to be made based on emotions, rather than sound business judgment. Sibling
rivalry has ruined many privately-held companies.
Deciding which relative should run the business after the founder's retirement or death can be one of the most difficult
challenges a business can face. Divorce can also shatter a business, leaving it in fragments. Nepotism can cause bright,
skilful managers who aren't part of the family circle to take their talents elsewhere.
Operating without a business plan
The growing company is operating without a business plan. Armed with 15 or 20 years in the business, management often
operates by the seat of its pants. Its plan may change overnight because the plan is based on management's own "feel"
for the market. In some cases the business plan exists in everyone's head rather than in writing. The result is that
plans are carried out according to individual interpretation.
Outdated Business Model
Under the Greenfields approach I always ask the question "If we were starting the business today would you do it the
same way? If the answer is "no' then why continue to do business that way?" Since the start of the company competitors
have changed, technology has changed, e-commerce has arisen as a distribution method, geographic markets have shifted
and many customers have gone through their life-cycle and left.
How successful are business turnarounds?
Learning from the Canadian turnaround experience where it has been found that one third of those companies emerging from
bankruptcy protection (Chapter 11) close their doors within five years, the success or otherwise of a turnaround is
dependant on strategic and operational restructuring beyond the initial triage of financial and asset restructuring.
In many instances a company's past and current strategies led it into distress and if these are not changed odds are
that the company will simply get into trouble again.
There were two notable turnarounds in the USA last year which were recognised for their success. These successes were
attributable to the very point arising from the Canadian experience - successes due to strategic and operational
restructuring beyond triage.
- In the small business category Gloucester a 40-year old business in the adhesive and sealant business, and following
the death of the founder in 1999 expanded their product line without clear market research and without good production
and marketing costs. The result: Stagnant sales, margins plummeting, danger of missing payroll and violation of loan
covenants.
The turnaround team addressed short term cashflow issues, marketing strategy, product strategy and personnel. The number
of products was pared down and a focussed marketing campaign was implemented. Unit costs were reduced by longer
production runs in this narrower range of products.
The result: From a deficit in 2002 to an EBIT [earnings before interest and tax] of 18% on sales for 2003.
- In the large business category Warnaco Group founded 130 years ago as a corset maker went public after a hostile
leveraged buyout in 1986 and expanded during the 1990's through ten major acquisitions. However the company struggled
with high overhead, lack of integration, poor operational management and weak financial oversight.
In November 2001 their third quarter loss was still $96.5M, after having filed for Chapter 11 reorganisation in June
2001.
The turnaround team reorganised a "new" Warnaco around three business groups and sold four-non core divisions.
The result: From a substantial 2001 EBITDA [earnings before interest tax depreciation and amortisation] loss, in 2002
their profit was $117M and the business re-emerged from Chapter 11 in 2003. Following a strong first quarter performance
in 2003 the company completed a $210M bond offering in June 2003.
Effecting a successful business turnaround
Until recently, turnaround specialists were a relatively unknown breed in the business community. However, as
once-stable companies struggle to maintain profitability, the expertise of corporate renewal professionals is more in
demand than ever. Rising competition, cyclical financial markets and economic volatility have created a climate where no
business can take economic stability or profitable long-term business growth for granted.
Many companies have turned to downsizing to improve their economic health.
However, downsizing has taken its toll on many businesses by robbing them of management talents, and destroying trust
with those remaining. The ranks of managers groomed to assume top positions have been thinned. In addition, the volatile
business environment has turned once-successful CEOs into hesitant managers who are no longer able to provide strong
leadership. Once you downsize how will you rebuild trust and confidence beyond the initial "slash and burn" exercise.
In other situations lender liability has also increased the need for turnaround management.
A turnaround specialist, operating as either an interim manager or consultant, may replace a company's CEO and
temporarily take over the decision-making process of a company to lead it back toward stability. Or, the turnaround
professional may become an active advisor to the troubled company's board of directors.
Advantages of a turnaround professional
The turnaround specialist enters a company with a fresh eye and complete objectivity. This professional is able to spot
problems and create new solutions that may not be visible to company insiders.
The turnaround manager has no political agenda or other obligation to bias the decision-making process, allowing him or
her to take the sometimes unpopular, yet necessary steps for survival.
Experience within a particular industry is not as important as experience in crisis situations when a company is facing
bankruptcy or the loss of millions in revenue. Like an emergency room doctor, the talent lies in making critical
decisions quickly to staunch the bleeding to give the patient the best chance for recovery.
Operating in the eye of the storm, the turnaround specialist must deal equitably with angry creditors, frightened
employees, wary customers and a nervous board of directors.
This role requires a different skill-set than those of a person whose assignment is just to liquidate the company or its
assets. Here we are looking for an experienced and proven business leader.
What are the stages of a turnaround?
Stage One : Changing the management
Most CEOs or company presidents don't relinquish power easily. Often their egos make it hard for them to admit such a
downturn is really happening or that they are unable to pull the company out of its nosedive. So, usually the first step
is to put into place the top management team who will lead the turnaround effort.
During this stage or after Stage Two¡Xsituation analysis¡Xsteps are taken to replace ineffective managers, which may
include the CEO, CFO or weak board members, who might impede the effort.
Stage Two : Analysing the situation
Before a turnaround specialist makes any major changes, he or she must determine the chances of the business's survival,
identify appropriate strategies and develop a preliminary action plan.
First days are spent fact-finding and diagnosing the scope and severity of the company's ills. Is it in imminent danger
of failure? Or is it merely in a declining business position? The first three requirements for viability are analysed:
one or more viable core businesses, adequate bridge financing and adequate organisational resources. A more detailed
assessment of strengths and weaknesses follows in the areas of competitive position, engineering and R, finances, marketing, operations, organisational structure and personnel.
In the meantime, the turnaround professional must deal with stakeholders. The first, angry creditors who may have been
kept in the dark about the company's financial status. Employees may be confused and frightened. Customers, vendors and
suppliers are wary about the future of the firm. The turnaround specialist must be open and frank with all these
audiences.
Once the major problems are spotted and identified, the turnaround professional develops a strategic plan with specific
goals and detailed functional actions. He or she must then sell the plan to all key parties in the company, including
the board of directors, management team and employees. Presenting the plan to key parties outside the company¡Xbankers,
major creditors and vendors¡Xshould regain their confidence.
Stage Three : Implementing an emergency action plan - triage
When the condition of the company is critical, the plan is simple but drastic. Emergency surgery must be performed to
stop the cashflow bleeding and enable the organisation to survive.
Cash is the lifeblood of the business. A positive operating cash flow must be established as quickly as possible and
enough cash to implement the turnaround strategies must be raised.
Stage Four : Restructuring the business
Once the bleeding has stopped, losing divisions sold off and the administrative costs cut, turnaround efforts are
directed toward making current operations effective and efficient. The company must be restructured to increase profits
and return on assets and equity.
This stage can be the most difficult of all. Eliminating losses is one thing, but achieving an acceptable return on the
firm's investment is another.
The financial state of the core business of the company is particularly important. If the core business is irreparably
damaged, then the outlook is bleak.
During the turnaround, the product mix or customer base may have changed, requiring the company to do some
repositioning. Core products neglected over time require immediate attention to remain competitive. In the new, leaner
company it may even withdraw from certain markets or target its products toward a different niche.
The "people mix" becomes more important as the company is restructured for competitive effectiveness. Reward and
compensation systems that reinforce the turnaround effort must get people to think "profits" and "return on investment."
The ultimate goal of a strategy is long-term sustainable superior performance which can only be attained through
meaningful differences between itself and its rivals. Only skilled leadership can devise, and then deliver on that
strategy.
Tactics such as benchmarking, outsourcing, partnering, reengineering, or cost reduction are "quick fixes' but ultimately
unless there is an effective strategy which is then effectively implemented then all the business has bought is time,
before the ultimate demise.
Stage Five : Returning to normal
In the final step of the turnaround, the company usually but slowly returns to profitability. While earlier steps
concentrated on correcting problems, this one focuses on institutionalising an emphasis on profitability, return on
equity and enhancing economic value-added. For example, the company may initiate new marketing programs to broaden the
business base and increase market penetration. The company increases revenue by carefully adding new products and
improving customer service.
This final step cannot be successful without a psychological shift as well. Rebuilding trust (usually damaged during the
cost-cutting phase), momentum and morale is almost as important as rebuilding the ROI. It means a rebirth of the
corporate culture and transforming the negative attitudes to positive, confident ones as the company maps out its
future.
Choosing a turnaround professional
For a troubled company, no decision may be more crucial than hiring a turnaround professional. Yet, with all the
pressures and distractions taking place within the company, this decision comes at the worst possible time.
Questions to be considered?
- What length of time is expected for the services of a turnaround specialist?
- Can the company pay the turnaround specialist's fees?
- Will other specialists be brought in by the turnaround manager?
- Will the rest of the existing management team be able to work with the specialist?
- What exactly is expected of the turnaround specialist?
- Are the goals in writing? Are there timelines?
- What are the chances of success in turning around the company?
Key factors in making the right choice
Background Experience is the most important credential. MBA degrees and CA designations count for little if the
turnaround manager does not have a proven track record. The candidate should be able to produce a portfolio of success
stories and satisfied clients.
The Turnaround Management Association holds members to a strict Code of Ethics and all members have signed a statement
acknowledging the Code of Ethics related to professionalism and honesty.
No turnaround manager can expect to succeed without quickly gaining the confidence of creditors as well as accessing new
sources of credit. I advise checking the candidate's reputation with leading bankers, attorneys, accountants, financial
advisors, factors and trade creditors.
Managerial skills - Chief Turnaround Officer
As the chief architect and implementer of new strategies, the turnaround specialist must be an organisational leader.
Look for a person of action, with entrepreneurial instincts, "hands on" experience, with interviewing and negotiating
skills.
Out of the nine leadership core competencies it is critical that CTO exhibit:
- Vision & Change Leadership - able to identify a correct strategy, and then effectively implement it.
- Leadership of Personnel & Teams - building trust and confidence with all stakeholders in the new life-cycle for the business.
- Business Judgment - proven prior results.
- Building Coalitions / Communication - effective with all stakeholders.
- Actual Results Achievement - a proven producer.
Where it has been identified that a differentiation exists and by starting early in repositioning the business then the
effective turnaround of at least 5 - 10% of troubled New Zealand businesses has the potential to rebuild creditor and
shareholder value, and over the longer term create additional employment.
At the very least between 1,125 - 2,250 jobs will be saved each year.
ENDS