Having seen and helped various businesses in various industries, I agree with Carl Icahn’s assessment on corporate waste. Lean in Private Equity is not new, or even Lean in the Venture Capital industry in general. There are several example where lean was used to stimulate corporate renewal, such as using lean to improve a medical device manufacturer, or using lean to improve the buyout of Sealy Mattresses, or using lean manufacturing to improve the automotive aftermaket. 1:
I have observed first-hand the sheer amount of waste and inefficiency at a few companies that I have taken over.
For instance, when I took over a rail freight car company called ACF during the 1980s, they had 12 floors in a Manhattan office building which was filled with workers. I couldn’t figure out what they did. I really tried to find out what these people did and even went so far as to pay $500,000 to a consultant to study the issue and get back to me.
After weeks of research, even the consultant couldn’t figure it out. So I shut down the division and it had no discernible impact on the performance of the company, which I own to this day.
This experience, in my view, is emblematic of the extent of waste in corporate America. There are few companies that you can’t come in and cut 30 percent of operating costs and no one would know the difference.
I agree with his general assessment 2, but not with how we went about shutting down the entire division so abruptly. But, he is correct in saying that most organizations are full of waste – and, the unfortunate thing is that – they don’t even know it.
Learning to See
- prevent corporate waste
- reduce corporate waste
- eliminate corporate waste
There are may signs of a troubled business 3. Each of us has a responsibility to improve those areas where we have influence. Given that, what are you going to do today to improve the business you are in? Help the people you work with? Improve the world around you?
It can be difficult, but is sometimes required to get the organization back to health. It is, of course, preferable, to avoid turnaround situations, if the steps of a turnaround can be avoided.
Stage One: Changing Management: Management change can begin only when company leaders have decided that changes are necessary. As most CEOs or company presidents do not relinquish power easily, the motivation for management change must often come from the board of directors. Even if incumbent mangers are willing to implement changes in an effort to turn a company around, they often lack the credibility or objectivity to do so because they are viewed as having caused or contributed to the problems in the first place. During this stage or after Stage Two”situation analysis”steps are taken to weed out or replace any top managers who might impede the turnaround effort. This may include the CEO, CFO, or weak board members.
Stage Two: Analyzing the Situation: Before a turnaround specialist makes any major changes, the individual must determine the chances of the business’s survival, identify appropriate strategies, and develop a preliminary action plan. This means that the first days of an engagement are spent fact-finding and diagnosing the scope and severity of the company’s ills. Is it in imminent danger of failure? Does it have substantial losses but its survival is not yet threatened? Or is it merely in a declining business position? The first three requirements for viability are analyzed: one or more viable core businesses, adequate bridge financing, and sufficient organizational resources. A more detailed assessment of strengths and weaknesses follows in the areas of competitive position, engineering and R&D, finances, marketing, operations, organizational structure, and personnel. In the meantime, the turnaround professional must deal with various constituencies and vested interest groups. The first and often most vocal group is angry creditors who may have been kept in the dark about the company’s financial status. Employees are confused and frightened, and spend more time worrying about their own job security than fixing the business. Customers, vendors, and suppliers are wary about the future of the company. A turnaround specialist must be open and frank with all these audiences. Once the major problems are identified, the turnaround professional develops a strategic plan with specific goals and detailed functional actions. The individual must then sell the plan it to all key parties in the company, including the board of directors, the management team, and employees. Presenting the plan to key parties outside the company”bankers, major creditors, and vendors”should restore confidence that the business can work through its difficulties.
Stage Three: Implementing an Emergency Action Plan: When the condition of the company is critical, the plan is simple but drastic. Emergency surgery is performed to stop the bleeding and enable the organization to survive. At this time emotions run high. Employees are laid off, and entire departments may be eliminated. Having sized up the situation objectively, an experienced turnaround leader makes these cuts swiftly. Cash is the lifeblood of the business. A positive operating cash flow must be established as quickly as possible. In addition, a sufficient amount of cash to implement the turnaround strategies must be sourced. Often, unprofitable divisions or business units are sold as a means to raise cash. Frequently, the turnaround specialist will apply some quick corrective surgery before placing these businesses on the market. Units that fail to attract buyers within a given time frame may be liquidated. The plan typically includes other financial, marketing, and operational actions to restructure outstanding debt obligations, improve working capital management, reduce operating costs, improve budgeting practices, correct product line and customer mix pricing, prune product lines, and accelerate high-potential products. The status quo is challenged, and those who change as a result of the turnaround plan should be rewarded while those who don’t are sanctioned. In a typical turnaround, the new company emerges from the operating table as a smaller organization that no longer is losing cash.
Stage Four: Restructuring the Business: Once the bleeding has stopped, losing divisions have been sold, and administrative costs have been cut, turnaround efforts are directed toward making the remaining business operations effective and efficient. The company must be restructured to increase profitability and its return on assets and equity. In many ways, this stage is the most difficult of all. Eliminating losses is one thing, but achieving an acceptable return on the firm’s investment capital is quite another. The financial state of the company’s core business is particularly important. If the core business is irreparably damaged, the outlook is bleak. If the remaining corporation is capable of long-term survival, it must now concentrate on sustained profitability and the smooth operation of existing facilities. During the turnaround, the product mix may have changed, requiring the company to do some repositioning. Core products neglected over time require immediate attention to remain competitive. In the new and leaner company, some facilities might be closed; the company may even withdraw from certain markets or target its products toward a different niche or market segment. The “people mix” becomes more important as the company is restructured for competitive effectiveness. Reward and compensation systems that reinforce the turnaround effort get people to think “profits” and “return on investment.” Survival, not tradition, determines the new shape of the business.
Stage Five: Return to Normal: In the final step of a turnaround, a company slowly returns to profitability. While earlier steps concentrated on correcting problems, the final stage focuses on institutionalizing an emphasis on profitability and return on equity, and enhancing economic value-added. For example, the company may initiate new marketing programs to broaden the business and customer base and increase market penetration. It may increase revenue by carefully adding new products and improving customer service. Strategic alliances with other world-class organizations may be explored. Financially, the emphasis shifts from cash flow concerns to maintaining a strong balance sheet, securing long-term financing, and implementing strategic accounting and control systems. This final step cannot be successful without a psychological shift as well. Rebuilding momentum and morale is almost as important as rebuilding return on investment. It means a rebirth of the corporate culture and transforming negative attitudes to positive, confident ones as the company maps out its future.
But we must begin now. What are you going to do to add value?
- Periods of economic and financial distress pose special challenges to the capabilities and decision-making processes of most professional management teams. Not only do such occurrences increase demands on existing managerial abilities, but they also create a whole new spectrum of legal, accounting, and financial considerations that impact the renewal process.
Today’s increased competition, cyclical and volatile financial markets, and economic trends have created a climate in which no business can take stability for granted. As once-stable, profitable, and competitive companies struggle to improve operational and financial performance, the expertise of corporate renewal professionals is critical to this revitalization process. The chances of successfully navigating the corporate renewal process increases through the use of qualified turnaround professionals, who have the experience and expertise to apply sound practices of turnaround management to failing businesses.
While many companies have turned to downsizing as a stopgap measure to improve their economic health, downsizing alone has its own adverse consequences in that it thins the ranks of managers groomed to assume top positions. Moreover, a volatile business environment may turn once-successful, growth-oriented CEOs into hesitant managers who no longer can provide strong leadership during periods of retrenchment. New lender liability laws also have increased the need for turnaround management. At one time, banks could take control of client companies that were in serious financial peril.
Today, courts view this action as equity participation, forcing banks to avoid direct involvement with corporate 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 processes of a company to lead it toward stability. Alternatively, a turnaround professional may become an active advisor to a troubled company’s board of directors. ↩
- A turnaround specialist enters a company with a fresh eye and complete objectivity. This professional can spot problems that may not be visible to company insiders and implement solutions. Turnaround managers have no political agenda or other obligations to bias the decision-making process, allowing them to take sometimes unpopular, yet necessary, steps required for a company’s survival. A turnaround manager’s experience within a particular industry is less important than experience in crisis situations when a company is facing bankruptcy or the loss of millions of dollars in revenue. Like an emergency room doctor, a turnaround professional must make critical decisions quickly to staunch the financial bleeding and give a patient the best chance for recovery. Operating in the eye of the storm, a turnaround specialist must deal equitably with angry creditors, frightened employees, wary customers, and a nervous board of directors. Clearly this is no assignment for the faint-hearted. ↩
- Executives who encounter corporate distress often go through the same emotional stages as dying people: denial, anger, bargaining, depression, and finally acceptance. The last stage is when most corporations hire turnaround professionals, unless they are forced to do so earlier by a lender, equity sponsor, or bankruptcy court. Corporate managers who recognize and acknowledge the signs of trouble and get help in the earlier stages have a much better chance of a successful recovery for their corporation. Most businesses in distress display more than one of these external and internal signs of trouble:
Ineffective Management Style. A president or founder of a company often is reluctant to delegate authority or refuses to do so. No decision, big or small, can be made without this individual’s blessing. As a result, the rest of the management staff gains no solid experience or feeling of vested ownership in the business. Dishonesty or fraud may exist, yet go undetected or unreported. The board of directors may be non-participative and ineffective. In such situations, if the president suddenly becomes incapacitated or dies, the entire company is in danger of collapse due to the resulting leadership void.
Overdiversification. The business has yielded to pressure to diversify to reduce risk. However, too much diversification may cause a company to spread its managerial, financial, and competitive resources too thin. As a result, the business becomes vulnerable to loss of market share to better competition.
Weak Financial Function. A company with excessive debt, stringent covenants, and inadequate equity capital is operating with little or no margin for error. Credit is overextended, inventories are accumulating, and fixed assets are underutilized. The introduction of better working capital policies and improved capacity utilization decisions are clearly warranted in such cases. Yet, incumbent management instead often engages in debilitating attempts to grow the company out of its problems.
Poor Lender Relationships. A weakened financial condition has led to the company developing an adversarial and unproductive relationship with its lending institution(s). Fearing that its loan relationships and facilities may be in jeopardy, the company tries to conceal financial information from its lenders. Telephone calls from the bank are not returned. Interim or periodic reports are not filed. Since money is the lifeblood of most any business, this kind of lender relationship only leads to more trouble and compounds the difficulty of managing the declining business operations.
Lack of Operating Controls. The company is operating without adequate reporting, accountability, and responsibility mechanisms. This is tantamount to flying an airplane without an instrument control panel. Management decisions based on inadequate, untimely, or inaccurate information can make a bad situation considerably worse.
Market Lag. Changes in the product and customer marketplace have bypassed the company, leaving it with sagging sales and declining market share. For some businesses, the source of the deficiency is technology; their equipment or products and services have become obsolete. For others, the problem lies in sales and marketing; the company hasn’t kept pace with the needs of the marketplace or the ability to distribute its products effectively to the customer base.
Explosive Growth. The business is growing rapidly. A business that is a success at $5 million in sales a year can become a dismal failure at $10 million. Companies achieving fast growth from concentrating on boosting sales often overlook the effects of that growth on the balance sheet and the cash requirements of funding it. Growth often carries a very high capital investment requirements, including significant investments in R&D, capacity, and working capital. Leveraging a company to meet these increased funding needs typically means that management must operate with little or no margin for error. In addition, growth has led to overwhelming the capabilities and effectiveness of management and employees alike. Staff is not able to work successfully at the new level. For example, management of engineering operations for a company with 12 plants is much different than managing a similar business with perhaps one or two plants. The same challenge applies to others in key positions in marketing, sales, operations, and manufacturing. A company can grow beyond its ability to manage.
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 percent of its business, the company obviously is vulnerable to the financial condition of its customer or the possibility of new suppliers displacing its relationship. The loss of just one of these key customers could put hundreds out of work and send the business into bankruptcy.
Family vs. Business Matters. Family issues can cause business decisions to be made on an emotional basis rather than on sound business principles. 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, skillful managers who aren’t part of the family circle to take their talents elsewhere.
Operating without a Business Plan. Armed with 15 or 20 years in the business, management often operates a growing company by intuition or the seat of its pants. Its plan may change overnight because it 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. Moreover, plans are inadequately communicated to employees. ↩
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