Turnaround management can be divided into two categories: short-term crisis management and long-term strategic management. A company in or near bankruptcy needs short-term crisis management to survive. Consultant Abraham Getzler explains, “Our clients often are like patients who just have been wheeled into an emergency room. First we have to stop the bleeding. Until the patient stabilizes, we don’t have time for a scientific approach.”
Yet, crisis management can solve only immediate problems. Sometimes reorganization is required which can be accomplished informally, i.e., outside the courts, or through the formal bankruptcy process. The causes and ultimate solutions for financial difficulty, however, are usually long term and strategic. Table 5.1 categorizes the methods used in various stages of the turnaround and in addressing typical problems. This section begins by describing how two turnaround specialists approach the restructuring process.
Table 5.1. Turnaround Methods
Crisis Turnaround Management |
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Reorganization Methods |
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Strategic Turnaround Management |
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Financial Management |
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Human Resource Management |
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There are three major stages in the turnaround or restructuring process: stabilization, reorganization, and restructuring. But before company management recognizes that a problem exists, it typically goes through a period of drifting during which no effective actions are taken to improve the business. The next stages are awareness, in which symptoms of distress appear, and then denial. Often management does not begin restructuring soon enough because it fails to recognize that the symptoms stem from a larger problem. It also has difficulty acknowledging the problem even after it becomes apparent. Usually, management finds the prospect of restructuring frightening.
Once the turnaround process begins, the stabilization stage involves taking some immediate steps to protect the business, such as fostering open communication, establishing a management team, conserving cash, and identifying and safeguarding assets. Company management may be able to begin this process on its own. More often, however, stabilization requires a new manager or a consultant with turnaround experience. A turnaround specialist can often help to objectively assess the strengths and weaknesses of the current management team. The specialist ensures that the priorities of current managers are aligned to deal with the most critical issues. Often, talented managers are hired to fill gaps in the management structure. It is also important that management establish a system of consistent and credible communications to all stakeholder groups.
Also during the stabilization stage, the turnaround management must assess the company’s liquidity problem, establish a system to conserve cash, and identify whether the liquidity problem is surmountable. According to Treleaven, if the liquidity hole is so deep that a company cannot possibly climb out, filing for formal protection may be advisable. The company also needs to identify and safeguard other assets—for example, retain key employees, protect against potential lawsuits, and file business-interruption insurance claims. The CFO must look beyond the obvious to ensure that all of the necessary assets are protected. The CFO also should draft a time line of all the required steps in the restructuring process.
The overall objectives in the reorganization stage are (1) to provide a factual, comprehensive study of the causes of the company’s poor performance; (2) to establish a mandate for clear change, designed to force management into action; and (3) to prioritize improvement opportunities. Deloitte & Touche’s diagnostic review, for example, typically focuses on four key elements. These are:
A value-based financial review of revenue growth, profit margins, and asset productivity;
A business strategy review of the company, competitors, customers, and industry dynamics;
A review of management processes and support infrastructure, which comprises management information systems, financial management, and other infrastructure, such as organizational structure, human resources and compensation, performance measures, and management processes; and
An operations analysis, which assesses the fundamental operating segments within the business, such as procurement, sourcing, logistics, merchandising, and plant or store operations.
The financial review is the most critical element in determining a company’s ultimate course of action. The company must determine the amount of the liquidity shortage, as well as its ability to create value through the three key drivers: revenue growth, profit margins, and asset productivity.
The final stage involves developing and implementing a restructuring plan and business alternatives and strategies. The CFO, senior management, and financial advisors decide the best route for the business: an informal, out-of-court restructuring, a sale, a bankruptcy filing, or liquidation. If management finds an informal revitalization plan viable, it may then start to rebuild the business. This can include taking steps such as strengthening its staff support, improving operating procedures, and renegotiating onerous commitments such as property leases and supply contracts. Rebuilding also typically involves developing a plan for short-term business opportunities with a fast cash payback, developing a longer-range strategic plan, and keeping all stakeholders informed of the company’s plan and progress.
Treleaven emphasizes that many restructurings fail because management does not correctly implement and control these strategies. But he also believes that many falter because certain conditions for success did not exist in the first place, such as:
An effective communications program
A manageable cash shortfall
New money
New management
If the company can arrange a restructuring by deferring payments and renegotiating contract terms, an informal process is always preferable. However, if the company needs to terminate its leases or have its debt forgiven, it may need court protection. Creditors often are more willing to ease their terms if they see financial support coming from other sources as well. Finally, creditors are usually skeptical about management’s abilities—the same management that got the company into its current predicament—and they are understandably leery of entrusting these players with new money. If management is not entirely replaced, creditors will take comfort in seeing at least a few new key managers with proven track records in restructurings.
Jeff Goodman provides some perspective on the process by outlining the six major phases in a turnaround. First, everyone in the company has to understand the state of the business. Within the first couple of weeks, the turnaround manager should gather all employees, explain the most important problems, and schedule additional meetings to describe the next steps.
Second, the CEO has to audit the company’s senior management team to find out how it has been operating, how its performance is measured, and how members are compensated. If they are paid bonuses, for example, what formula or metric determines the amount?
Third, the manager needs to “divide and conquer.” Although it may seem counterintuitive, the manager should build silos and solve some of the problems in each area before connecting the silos. In a broken business, problems typically exist in different areas, such as product quality, marketing, and sales. Employees should be aware of activities in other parts of the organization, but at this stage the company needs them to concentrate on problems in their own areas, where they can have the most impact.
Fourth, the management team should build a consensus about what has to be done to improve the business. If the plan reflects just the CEO’s ideas, the CEO will be saddled with the responsibility to do it all, without the necessary support from other senior managers, line managers, and employees.
Fifth, the management team must agree to functional objectives, combining and aligning them to form corporate objectives. Finally, the company needs to interlace the silos to form a coherent organization.
Now, having seen an overview of the restructuring process from the turnaround specialist’s perspective, we move on to how the case-study companies approached the process.
Without cash, a company cannot continue to operate. Therefore, cash is often the first issue a company has to deal with when it finds itself in a crisis. Managing daily cash receipts and disbursements was one of the most important concerns for the CEOs of Forstmann and Microserv, the treasurer of Cadillac Fairview, and the CFO of Forzani when their companies were on the brink. In the crisis turnaround stage, these companies could make only vital payments, and even those had to be prioritized. The turnaround CEO and owner of Sampson Paint Company, faced in the beginning with a cash constraint, called every vendor to introduce himself and explain his payment plans.
Cadillac Fairview developed a cash conservation program that curtailed advisory fees to the firm that arranged its LBO, any payments to shareholders and subordinated debt holders, and interest payments under its syndicated credit facility. Collections also had to be managed carefully. The largest receivables often were negotiated individually. Sometimes discounts were offered for immediate payment. In this way, the portfolio of receivables was converted to cash.
A close companion to cash-flow management is selling assets to generate some cash. Companies fighting for survival often must focus on which assets they can sell quickly rather than what makes the most sense in terms of long-term strategy. Edison Brothers, Navistar, and USG sold major subsidiaries to raise cash. Along the same lines, closing selected stores was a crisis turnaround measure for Ames Department Stores, Forzani, and Musicland. Sampson Paint eliminated several product lines and sold the related inventory. Cadillac Fairview considered selling some of its real estate assets, but, in the end, it parted with relatively few because the market was unfavorable and it wanted to protect the company’s franchise value over the long term.
Faced with the daunting task of stabilizing the company and its cash flow, senior management also needs to remember to keep the lines of communication open with stakeholders. Notably, the CEOs of Forstmann, Forzani, and GenRad were all very forthright with their stakeholders, in a bid to reduce anxiety and enlist their support. For example, immediately after Forstmann filed for bankruptcy, CEO Bob Dangremond, who engineered the turnaround, wrote to every employee, customer, creditor, and stockholder to describe the reasons for filing and to outline the plan for reorganization. Management met regularly with employees at each plant. It prepared monthly progress reports with financial results and kept suppliers current on the company’s cash position.
Wes Treleaven, who was involved in the Forzani turnaround, also stresses the need for consistent communication. He worked with management on a careful disclosure plan—truthful but not excessive. This was to ensure that suppliers would not get an optimistic message from the chairman, only to hear from the accounts payable department that their payments would be delayed.
Usually, management needs to strike a calculated balance between emergency and long-term measures, both of which are necessary to ensure the company’s future viability. For example, when Jim Lyons joined GenRad as CEO, he had to stabilize a crisis. He resolved to understand and listen to all of the stakeholders before acting and to make no major strategic moves in the first six months. At the same time, however, he had to generate confidence among employees, customers, vendors, and lenders. Despite the gravity of the situation, he thought it was essential to emphasize the positive, and eventually this approach helped restore the company’s credibility.
This same spirit of optimism is crucial when negotiating and revising terms with suppliers and landlords, a key measure for any company trying to avert bankruptcy. If a company can be salvaged, it is in suppliers’ best interests to help it stay out of bankruptcy. Therefore, a company in crisis must quickly develop a plan that will allow it to meet some of its commitments in the short term. This approach worked out well for Forzani, Musicland, and Sampson Paint, all of which found that suppliers would rather receive discounted or delayed payments than lose large customers altogether. Forzani and Musicland also avoided bankruptcy partly because they were able to renegotiate their store leases. Some large landlords had these retailers’ stores in their shopping malls and did not want to lose them if they appeared viable in the long run. However, negotiations did not work out as well for retailers Ames and Edison Brothers. Both companies had to file for bankruptcy protection, partly so they could terminate their store leases.
Most of the companies we studied changed ownership and management and required some form of reorganization, either informal or under bankruptcy court protection. The turnaround process generally diverted a huge amount of time and effort and inflicted physical and emotional stress on those who were directly involved.
Ames Department Stores, Burlington Motor Carriers, and Forstmann all declared and successfully emerged from bankruptcy. USG went through a briefer prepackaged bankruptcy process, a process used when the majority of creditors agree on the terms but the court process is still necessary because of a few holdouts. Cadillac Fairview, the Canadian commercial real-estate company, reorganized under CCAA protection.
The restructuring path was a bit different for Jos. A. Bank, Forzani, Musicland, and Navistar; all of them were on the edge of bankruptcy but negotiated out-of-court settlements with their creditors. Edison Brothers emerged from one bankruptcy, partially recovered, and then liquidated after declaring bankruptcy a second time. Forstmann also succumbed to a second bankruptcy and was sold to another fabric company. Computervision was acquired by its competitor, Parametric, while Sampson Paint was acquired by a turnaround investor and manager.
Turnaround specialists and virtually everyone interviewed in the case-study companies agree that a company should avoid bankruptcy unless there is absolutely no other choice. For Ames and Edison Brothers, Chapter 11 protection was necessary to allow them to cancel store leases, and this was also true for Burlington and its equipment leases. Almost every outside party involved with Musicland recommended filing for Chapter 11 protection at one time or another. But at this company, as at Forzani and Jos. A. Bank, management’s determination and skill in negotiating with creditors prevented formal bankruptcy.
Paul Hunn, who has many years of commercial loan workout experience, notes that in the past, it was easier for a company and its banks to reach out-of-court settlements. This was largely because bankers were more willing to become involved in financial turnarounds, and they were more willing to make sacrifices, such as taking equity in the borrower as part of their compensation, with a 5- to 10-year perspective. Skilled workout specialists understood a company’s business and how to work with other creditors and with accountants. In Hunn’s opinion, the best example of an out-of-court settlement was Navistar’s predecessor company, International Harvester, in the early 1980s. Two hundred and forty banks, many of them offshore, worked together to accomplish the settlement.
Today, the environment is less conducive to this solution. Securities analysts and investors pressure bankers not to report high levels of non-performing loans. As a result, bankers often prefer to sell those loans at a discount to prime-rate funds and distressed-securities investors. It follows naturally that banks now employ fewer workout specialists. Distressed-securities investors generally have no interest in becoming involved with workouts. They are primarily interested in buying debt at a discount and selling it at a profit. In a restructuring, their main objective is protecting their own position against other creditors. As Hunn observes, “They fight for the last buck.”
Bankruptcy is expensive for a company. Top bankruptcy lawyers now charge $450 to $600 per hour, although the cost comes out of collateral. But, adds Hunn, “The environment has changed so that a chapter proceeding is sometimes the only way you can get anything done. With the proliferation of people involved, all with different interests and all wanting to fight to the very end, you need the hammer of a cram-down from the judge.” A cram-down forces all creditors to accept terms the court has determined to be fair and equitable.
Current bankruptcy law does, however, give the debtor a chance. Nonetheless a judge should consider—particularly after the first four-month exclusivity period—whether or not the company has the financial or management resources to effect a turnaround. Often, a company’s management will press to extend the exclusivity period, to give the company as much time as possible to regain momentum while under Chapter 11 protection.
Creditors, on the other hand, often argue against such extensions, particularly when they fear that their recovery amounts could diminish over an extended bankruptcy. During its first bankruptcy, Edison Brothers received approval for an initial six-month extension and then an additional five-month extension while management developed its reorganization plan. The creditors’ committee supported the first extension but not the second because it felt the company had begun to turn around and should hasten its emergence from bankruptcy.
In virtually every turnaround of a publicly held company, there is a significant change in ownership. Existing investors become disenchanted and sell their stock. New investors buy at bargain prices, betting on improved performance. In bankruptcies, of course, the original shareholders usually get a small percentage, if any, of the reorganized company’s stock. Edison Brothers was a partial exception. Shareholders recovered a significant amount of value because of an improvement in performance during the first bankruptcy, only to lose their investment in a subsequent downturn—one that led to a second bankruptcy and liquidation.
USG’s shareholders were bought out in a leveraged recapitalization. Because of subsequent financial difficulties, the new equity owners lost most of their investment. Debt holders received the majority of stock in final settlements.
Cadillac Fairview, which was bought out in an LBO, had somewhat different circumstances. In addition to common stock, Cadillac Fairview’s pension-fund investors owned subordinated debentures with equity voting rights, which they sold at deep discounts to distressed-security investors. Some of these investors earned sizeable gains in the final reorganization. The entire company eventually was purchased by a Canadian pension fund that could view the cash flows and intrinsic values of the company’s real estate properties from a long-term perspective.
In four instances, completely new owners undertook the difficult work of pulling the companies out of their quagmires. When the current owners of Burlington Motor Carriers decided they wanted to buy the company, they were able to demonstrate their trucking industry experience to the bankruptcy-court judge and purchased the company out of bankruptcy. After a partially successful turnaround attempt, Computervision was sold to Parametric. Sampson Paint, a company that had been family-owned for a long time, was sold to a turnaround specialist who saw a combined management and investment opportunity. Forstmann was sold to a Canadian textile company in 1999 after its two-year turnaround faltered and it filed for Chapter 11 protection the second time.
CEOs do not usually keep their jobs after their companies run aground financially. In 10 diverse case-study companies, a successful turnaround required new management with different professional capabilities and a new strategic vision. Shortly after assuming their positions, the new CEOs guided their companies toward new business models and strategies. The turnaround of Forzani is an interesting variation on this theme. When the founder and chairman realized that the company was in trouble—and, perhaps more important, that he needed help—he hired two new executive vice presidents, the current CFO, and the head of operations and marketing. The EVPs worked together to turn the company around, reporting to the chairman and a supportive board.
Once management gets the immediate cash-conservation issues under control, it needs to turn its attention to the strategic direction of the company. Five of the case-study companies adopted a renewed focus on existing core competencies as part of their turnaround strategies. Ames Department Stores’ approach was to take a fresh look at the moderate-income housewives and seniors who had been the mainstay of its business.
In the high-technology area, both GenRad and Kollmorgen had diversified too far afield from their strengths. GenRad redirected its efforts toward test equipment, then used that business as a foundation for software and diagnostic systems for automobile companies and other large manufacturers. Kollmorgen sold its semiconductor businesses to concentrate on motion-control and electro-optical systems.
On the manufacturing side, International Harvester was forced to sell its agricultural and construction equipment businesses to survive. It stayed in truck manufacturing because that was its strength. USG reached the same conclusion about its business. After emerging from its prepackaged bankruptcy, management realized the company had the resources to be a market leader and grow internationally—but only in wallboard and ceiling systems, its two strongest businesses.
Contraction was a necessary survival measure for most of the companies in this study. It was also a natural byproduct of rediscovering core competencies. Edison Brothers, Forzani, and Musicland closed stores to reduce expenses and raise cash. Musicland also closed a distribution center. Burlington Motor Carriers allowed trucks and trailers to be repossessed, while Computervision and Forstmann exited unprofitable businesses and product lines, respectively. Edison Brothers, Navistar, and USG divested, and GenRad, Kollmorgen, and Maytag undertook both divestitures and acquisitions in the process of readjusting their strategic direction.
In seeking this shift in strategy, several of the companies found it helpful to get better acquainted—or reacquainted—with their customer base. Fairmont Hotel Management, for instance, began to group its customers into categories, such as high-income international travelers and corporate travelers. Then it conducted market research to better understand their needs. The company also started to treat each feature and service, such as restaurants, room service, parking, banquets, and even telephones and fax machines, as a separate product with its own P&L; then it researched the total markets for those products.
Before the turnaround crisis, Fairmont, like Forstmann and Sampson Paint, lacked any kind of cohesive customer- and product-profitability analysis and therefore could not easily sort out in which areas the company was competitive and in which it was not. Instituting formal business analysis helped all three companies accurately gauge where they were making most of their profits and trim off unprofitable products.
Microserv did detailed studies of trends in the computer-services and consulting markets. Based on the results, the company stopped selling directly to corporate customers and repositioned itself as a service subcontractor to large companies such as Dell and IBM. GenRad’s shift from test equipment manufacturing to a broader array of integrated test, measurement, and diagnostic solutions for manufacturing and maintaining electronic products was inspired by market research with major customers.
Most of the retailers in our study developed new retailing and merchandising strategies. Jos. A. Bank used promotions as its primary selling strategy and discontinued its women’s clothing lines because they fell outside its design and retailing expertise. In accord with its renewed emphasis on its core strengths, the company closed its manufacturing operations, switched to contract manufacturing, and focused on retailing.
Forzani also discontinued slow-moving merchandise and it adopted a narrow-and-deep merchandising strategy. In other words, its stores carried fewer items but stocked a good selection of sizes and colors, and the company ensured that its stores were staffed by well-trained salespeople. Ames Department Stores, which was selling apparel and housewares to a different customer base, went in the opposite direction because its moderate-income customers preferred variety to depth.
Finally, in the late 1980s, Edison Brothers shed its staid image as a retailer of clothing and footwear to the over-40 market. In an effort to grow faster, Edison’s new strategy targeted menswear for fashion-conscious teenagers and young adults, but the company ultimately did not succeed in repositioning itself.
Although Edison Brothers failed in its attempt to regroup, some companies were more successful in adopting entirely new business models. Microserv is probably the best example. The company conducted an analysis of corporate computer-service needs, and, based on those results, it decided to become a subcontractor to large computer companies such as IBM rather than sell its maintenance and repair services directly to corporate users. GenRad likewise gained a fresh focus on its key strengths in the test equipment area and began to pursue growth opportunities in diagnostic equipment, software, and consulting for large manufacturers. This gave it the momentum to embark on an aggressive new product development program.
Maytag and Navistar also started to actively develop new products in the wake of newly revamped strategies. Maytag also invested heavily in its core business and product lines. For St. Luke’s Hospital, new services such as outpatient programs and neighborhood clinics were part of a strategy to serve the needy and combat intense competition from health maintenance organizations.
As we have repeatedly emphasized, the finance function is a cornerstone of any company—and never more so than in a turnaround situation. In all the companies we studied, finance assumed a very prominent role in the rebuilding process. This encompassed running the business during the turnaround, negotiating with creditors, coordinating with marketing, working with line management to develop new financial and nonfinancial performance measures, and setting new capital-structure and budgeting policies.
In addition, finance improved inventory management, information systems, and controls; reduced overhead, assets, and dividends; and raised new equity. It’s also worth noting that for the three small, privately held companies (Sampson Paint, Pepsi-Cola Bottling, and Red Rooster Auto Stores), improved financial reporting and control systems were especially important. This included budgets, monthly financial statements, plan/actual reviews, profit centers, and accountability systems.
Because the hurdles of a turnaround are nearly universal, these measures were not limited to a particular industry. On the contrary, all 20 companies had to go through at least one—and usually several—of these crucial processes to reestablish their fiscal and operating stability.
Amidst the chaos that characterizes a turnaround situation, it can be difficult for a CFO to attend to both the restructuring and the company’s day-to-day business. For the companies we studied, resolving this conflict often involved some division of responsibility, although each company’s perspective was slightly different. During Navistar’s turnaround, the finance function essentially ran the daily business. USG bifurcated its top management: The president and operating management ran the business while the finance function focused on the restructuring. Jos. A. Bank’s CEO hired a workout specialist to deal with legal and other restructuring details and told the members of the finance function to concentrate on their normal, day-to-day operating responsibilities.
At Forzani, financial matters were intertwined with retailing issues, such as negotiating with suppliers and landlords and devising new merchandising strategies. Therefore, the newly hired CFO and head of retailing worked together on all aspects of engineering the turnaround. The CFO of Burlington Motor Carriers, which was purchased out of bankruptcy, initially spent a great deal of time on residual bankruptcy issues, such as settling unliquidated claims. Later he found more time to work with the CEO on pricing, cost reduction, information systems, deferred maintenance, and other measures designed to restore the company’s operating margin.
As a company survives its immediate hurdles and repositions itself for the longer term, the finance function has to solidify its partnership with operating management and assume joint ownership of KPIs. Finance also should help managers prepare their forecasts and review operating and financial results with them to see what went right or wrong, Jeff Goodman advises. But note that a finance person needs to have the stature and the backing of the CEO to routinely ask business managers whether their business units will meet the projected numbers in their plans and, if not, what corrective actions the managers will take.
Forzani and Microserv are two excellent examples of the coordination between finance and marketing, and the synergies they can create. The marketing and finance functions in both companies jointly developed the new business strategies, so they were able to tightly link marketing and financial goals. Forzani’s new narrow-and-deep merchandising strategy was designed both to sell what the customer wanted and to improve the turnover of inventory. Previously, the company had not paid enough attention to the high costs of inventory, and it remedied this by focusing on the most profitable items and moving them quickly. The finance function supported and enhanced this effort by working closely with the marketing function in selecting store locations and tracking trends in same-store sales and sales per employee. In addition, one of the CFO’s main priorities is reducing selling, general, and administrative expenses, much of which is under store managers’ control.
Microserv’s new CFO works with his marketing counterpart to estimate the cost of each new service contract and decide how it should be priced. He is also segmenting the company’s various businesses, such as technical support and parts support, and comparing their profitability.
Jeff Goodman suggests that turnaround management teams identify which financial variables are most crucial to a company’s operations and use them as a basis for defining KPIs. Once management has selected its indicators, the finance function and operating management must establish joint ownership and use them as a basis for establishing incentive compensation.
Eight of the case-study companies did just that, developing new performance measures as part of their efforts to regain control of their destinies. The turnaround CEO of Forstmann and the new CFO of Forzani both emphasized the need for line management and the finance function to establish KPIs, the financial and nonfinancial measures that are the most important gauges of the business’ health.
Focusing on the most important performance indicator, revenue per available room (REVPAR), was fundamental to Fairmont Hotel Management’s turnaround. Management raised REVPAR by letting the average daily rate for hotel rooms drop, thereby increasing occupancy. In a different industry, Red Rooster restored its profitability partly by shifting from sales-based to gross-profit-based performance measures. As part of its restructuring process, Navistar established return-on-equity and return-on-assets measures. Line managers throughout the company are now trained to understand how these measures are calculated and how they reflect variables under their control, such as revenues, costs, and capital investments.
For every company, it’s crucial to “know what can kill you,” Steadman warns. For most troubled companies this includes having timely data which enables management to recognize inventory problems, margin problems, and quality problems. This information does not all necessarily come from financial statements. Therefore, when familiarizing himself with a turnaround situation, Steadman begins by analyzing the gap between a company’s current situation and the model of how a successful business should work.
Companies on the mend are especially in need of good capital-structure and dividend policies that can provide some much-needed support. After their companies were stabilized, the new CFOs of Ames Department Stores, Cadillac Fairview, Forzani, Kollmorgen, Maytag, and Musicland set capital-structure targets in step with their companies’ new or reevaluated strategies and business risks. Used properly, new targets can help reestablish a company’s credibility with the investment community. USG is a good example. When the company emerged from its prepackaged bankruptcy in 1993, it announced a goal of achieving a triple-B credit rating within five years. Management reached this goal by improving earnings and steadily repaying debt (establishing the needed credibility to conduct an equity offering) and by gradually increasing investment in growth.
Divestitures helped Kollmorgen and Maytag fortify their balance sheets, and Maytag also reduced its relatively high dividend-payout ratio. The company tightened up its capital-budgeting practices as well to ensure that projects earn more than the company’s cost of capital. In their capital-expenditure proposals, business managers must support their projected cash flows with information such as sales forecasts, competition, price points, and working-capital requirements.
International Harvester/Navistar’s tale bears some similarities to Maytag’s. International Harvester likewise paid out too much in dividends, and it failed to earn more than its cost of capital in the 1960s and 1970s, its CFO explained. Navistar now has better capital-budgeting disciplines. One of the most important things the company did to reverse its fortunes was to eliminate its dividend so it could retain cash for reinvestment. Some of the other companies had some notable changes on the capital front, too. Forzani’s CFO set hurdle rates for both capital investments and acquisitions. Taking a different approach, GenRad’s CEO focused mostly on how a project fit in with the company’s overall business plan because, he said, return-on-investment (ROI) projections were usually overly optimistic, particularly for new products.
Reducing and improving inventory management was essential in the turnarounds of both Forstmann, the textile manufacturer, and Forzani, the sporting goods retailer. Previously neither company had paid enough attention to the high cost of inventory. Both reduced inventory by focusing on products that were most profitable and moved most quickly. Navistar found that inventory management really saved the day, and, by increasing inventory turnover, the company was able to generate more than $1 billion in cash.
To some companies, reducing overhead was purely a matter of survival, especially for those that were contracting their businesses, such as Burlington. Forzani’s CFO set an ambitious percentage-of-sales target for SG&A expenses, based on benchmarking studies with some of the best-run retailers. Forstmann fired senior executives who were neither contributing to the bottom line nor trying hard enough to minimize expenses. GenRad’s approach was to sell unproductive real estate. Kollmorgen, which had reduced its backlog of work, downsized its workforce accordingly, and it cut an already lean corporate staff in half.
Improved information systems were an important turnaround measure for companies in the retail, service, and manufacturing sectors. Many of these companies previously had not paid enough attention to the need for good information systems. In the turnaround process, revamping their information flows dovetailed with new business models and strategies. Jos. A. Bank developed methods of tracking an individual customer’s preferences, as well as the success of its promotions. With Red Rooster’s new information systems, management can check each employee’s sales and gross profits at any time. Employees in each store can monitor whether the store’s monthly sales have reached the threshold for employee bonus awards. For Pepsi-Cola Bottling, improving its information systems meant hiring a qualified data processing manager and installing a system tailored to the bottling industry. Forzani reinvigorated a fundamentally good but poorly utilized system by assigning “ownership” to the head of merchandising and properly training the users.
In the course of their turnarounds, both Cadillac Fairview and Forzani raised cash through initial public offerings. Cadillac Fairview also raised cash from a long-term strategic investor who helped the company emerge from its restructuring and is now its sole owner.
Improved financial reporting and control systems, including budgets, monthly financial statements, plan/actual reviews, profit centers, and accountability systems were essential to the turnarounds of three privately held case-study companies. In contrast, the quality of Musicland’s accounting and financial reporting systems helped management determine which expenses could be reduced without sacrificing business performance.
At some point in any turnaround, the company needs to undergo some serious soul-searching about its employee philosophy and management style. Are these effective? Do they need to be updated in light of changes in the workforce? Can they be improved to better reflect, enhance and support the company’s new business model and direction?
For several of the case-study companies, the answer was an unequivocal yes. Both GenRad and USG began to delegate authority much more extensively and to flatten their organizational structures. Red Rooster’s management began to share more financial information with employees. This helped employees understand how they could improve the company’s performance and, by extension, their own compensation. Pepsi-Cola Bottling’s management style moved along a different path, becoming less paternalistic and more professional.
Fairmont’s market research showed that the previous management had been perceived as arrogant, inflexible, unfriendly, and unwilling to listen to customers’ needs. This was a major problem for a company in the service industry. Its new management used the characteristics of successful employees, such as self-respect and interest in helping others, to serve as guidelines for improving its interviewing and hiring procedures. Fairmont found such employee training to be an important factor in improving its sales and service capabilities. Interestingly, Forzani reached the same conclusion during its turnaround. Clearly, neither retailing nor service industries, which depend heavily on customer relations, can afford the perception that they are unresponsive to customer needs.
A less tangible but no less important shift occurred in Computervision’s management philosophy. Computervision executives who stayed after Parametric acquired the company observed that Parametric’s management decision-making process was quicker, more decisive, and less bureaucratic—important attributes for a high-technology company competing in a fast-changing environment.
Navistar had very different human resources issues. The company had a long history of difficult relations with United Auto Workers, the union to which most of its employees belonged. But when Navistar’s management stopped blaming the UAW and started to address productivity issues under its own control, the union became more cooperative in discussing the remaining issues. As a result, management began to recognize the need to establish its own relationship with employees, rather than relegating employee communications to the union.
Effective incentive compensation requires sound control and reporting systems. Therefore, it is not surprising to find companies that rebuilt their control systems also revised their compensation plans, usually to spur productivity more effectively. For instance, compensation for Jos. A. Bank store managers now consists of a base salary and a bonus based on achieving targeted quarterly profit goals. Store managers also are required to meet sales quotas. Forzani’s compensation scheme has been redesigned to make each of its salespeople behave more like entrepreneurs.
Red Rooster first had to reduce employee compensation, as a percentage of gross profit, to a level closer to the industry average for auto stores. Then it developed an incentive compensation plan that provides bonuses based on company, store, and individual performance. At Navistar, all key executives receive bonuses based on overall company performance. The top 50 must buy company stock in multiples of their salaries, depending on their grade levels.
Most companies trying to pull themselves back from the financial brink need a hand from outside advisers at some point. At Cadillac Fairview, lawyers, investment bankers, and financial advisors played essential roles at various stages. However, companies should be cautious in how they represent the advisory role to employees. Cadillac Fairview’s treasurer at the time, John Macdonald, acknowledges that the appearance of consultants is often unsettling for employees. This is because consultants are paid top dollar and often seem to have a cavalier attitude, while employees of a troubled company are worried about their jobs, working extended hours, and receiving level or even reduced compensation. But Macdonald believes the company could not have survived without its consultants. They not only provided advice but also lent credibility to management in its efforts to salvage the company.
Musicland’s financial and legal advisors also provided solid business advice, such as second opinions, negotiation support, and financial-modeling support to help the company identify which stores to close. But the company’s CFO and treasurer warn companies to manage their outside advisors closely to ensure they are accurately reflecting and carrying out management’s wishes. During Musicland’s turnaround, the advisors often behaved as if they thought their role was to help the company through an orderly bankruptcy-filing process (which would have earned them significant fees) rather than to help it avoid filing. Filing was not management’s intention, and it was certainly not the impression it wanted to convey to its stakeholders.
Corporate governance can be an important check on management’s actions, and there is never a more important time for this function than during a turnaround. Yet, according to Wes Treleaven, boards of directors often do not challenge management’s performance in effective ways, such as reviewing management independently or holding CEOs accountable. A well-constructed board offers a spectrum of experience to augment that of the CEO. It is, of course, important to have outsiders on the board but also to have enough insiders to ensure that directors do not hear from the CEO alone, Steadman counsels.
Forzani’s board of directors, advised by an independent legal firm, kept in touch with management through weekly telephone conferences and provided useful business advice during the turnaround. The board was comprised mainly of outsiders with business experience. Two were finance professionals who had engineered turnarounds, and two were retailers. GenRad’s CEO nominated new board members, primarily CEOs of other technology companies, who were more capable of understanding the company’s business strategy. Musicland’s board of directors—five outside business people and two members of management—relied primarily on management’s initiative in the turnaround but reached its own fiduciary conclusions on major matters, such as whether to file for bankruptcy. Pepsi-Cola Bottling’s management benefited from the advice of three outside board members in the 1980s. Eventually, however, management felt that the company had outgrown these directors and replaced them with three inside directors.
The real test of a board occurs when things are not going as planned. As a company approaches insolvency, a board must make complex judgments. It has a responsibility to all stakeholders, not just shareholders. Therefore, Steadman emphasizes that the board must be concerned about the company making commitments it may not be able to meet. However, once a company is in bankruptcy, the board is well protected. The court has so much power that the board of directors really becomes purely an advisory body, while the creditors’ committee assumes many of the board’s governance responsibilities.
As we have said repeatedly, financial turnarounds are not for the faint of heart. By now, you may be wondering how the turnaround specialists and finance executives in our case-study companies survived the inevitable stress and long hours turnarounds entail. Jeff Goodman found that the most difficult aspect was the feeling of being a loser for a long time before the company’s performance started to improve. He had to expend a huge amount of energy tutoring, coaching, and mentoring employees and management to bring their professional skills to the required level.
As a newly hired CEO, Tim Finley had a relatively calm attitude toward the turnaround of Jos. A. Bank. He had successfully turned around companies before and saw relatively little to lose in taking on the challenge again. He hired a professional with workout experience to see to most of the restructuring details and encouraged other members of management to concentrate on rebuilding the business.
The process did not go as smoothly for the CFOs of Navistar and USG, both of whom played major roles in their companies’ prolonged financial restructurings and turnarounds. Both found that the experience involved almost unbearable working hours and fatigue over several years. Rebuilding their companies diminished their family and social time and created tension and confrontation as they worked with suppliers, lenders, investors, and other outside constituents on survival missions, with uncertain prospects for success.