Create options for change
As companies face changes in their markets from competitive forces and customer demands, they also need to be proactive in ensuring their operations are up to the challenge. Companies will often experience operational issues that can be leading indicators for real viability concerns in the longer term. With management focused on day-to-day operations and business as usual matters, it can often be a challenge to identify and address indicators of potential operational stress ahead.
It is critically important to evaluate the business in order to anticipate operational changes which may be needed and avoid a potential crisis further down the line:
“What are the fundamental underlying issues affecting our competitiveness and profitability?”
“What is the plan to improve? What is the target improvement needed?”
“How quickly do we need to get costs out?”
Waiting until crisis mode has arrived makes it that much harder to turn a situation around; key people may have already left the organization, creditors may be less inclined to cooperate and customers may have already sensed a problem and switched to another provider.
At this point, an immediate response may be the highest priority to protect your business. However, companies often don’t have the breathing space to consider alternatives and act in order to avoid financial stress further down the line. Starting early to assess the situation and developing a plan allows you to consider the options, proactively manage the stakeholders and manage the situation to your favour.
Key indicators to watch for
1. Operational decline/distress
- Declining revenues without adjustment to overall organizational cost structure
- Rapid increases in expenditure both budgeted and unbudgeted (e.g. overhead, discretionary, maintenance, etc.)
- Slow response to market and competitive changes
2. Declining gross margins
- Declining Gross Margins with increasing, straight-line or decreasing overall revenues
- Decreasing Gross Margins due to rapidly increasing input costs
- Unexplained or poorly explained cost variances
3. Working capital constraints
- Steady increase of inventories in conjunction with reduced inventory turnover
- Increase in Accounts Receivable combined with an increase in Accounts Receiving Ageing
- Purchase-to-pay cycle not managed effectively
4. Frequent credit increase requests
- Frequent need to increase lines of credit or for additional cash injections to fund raw materials, purchased components, third party supplied goods, or external services
Relentless focus on value
Sustainable change in a restructuring or turnaround only comes with taking a commercial and hands-on approach to address the underlying issues. To protect margins, businesses must go beyond theory and analysis to act quickly and focus on what is within their control, notably cost drivers. Agility is also paramount so that management can react to a changing situation and still focus on the commercial end goal. It is essential to conduct regular reviews to track activities and results to the objectives agreed at the outset, with a focus on cost levers.
In unstable environments such as turnarounds, flexibility to respond to changing conditions is necessary, and both management and plans need to be adaptable to a given situation. Business units need to be held accountable to deliver on what is required and give teams on the ground the autonomy and trust to achieve the end-goals. Governance is needed so that management can remain informed and take any tough decisions early, cutting the waste and reassigning resources to the most important activities.
Once options have been reviewed and a path chosen, management needs to have a relentless focus on value. Are you meeting and sustaining your target improvements? Are you considering the impact of these changes on shareholder value and customer experience?
Protecting and securing value by navigating successfully through a turnaround scenario, not only achieves results for the short term, but can be a vital foundation to longer value creation.
Play the long game
Tackling the situation early can allow a company to consider its ongoing strategy to avoid continuing towards financial distress or formal restructuring in the future. Management’s focus on continuous transformation, employing a turnaround mindset and sustainable cost reduction initiatives, will enable the business to survive and thrive in the longer term.
In some cases, we have seen where a company is forced to focus on a financial restructuring but does not effectively address the underlying operational issues that led to the difficulties in the first place. While this can remedy the immediate situation, it may simply buy a bit of time before the symptoms reappear due to unresolved, underlying issues.
Too often, we have been involved in restructuring files where organizations wait too long and then are limited in the options available. We recently worked with a global client that had a business unit with eroding profitability. By addressing the issue early, we were able to work with management to analyze potential scenarios and quantify the impact of each one, both from operational as well as financial standpoints. As a result, our client was able to decide on the best scenario as well as manage the change and communication with stakeholders. If left idle too long, profitability would have further eroded and the company may not have had the time needed to analyze the options and control the ultimate decision.