When a firm has experienced a serious decline in its market position, it is a candidate to mount an all-out effort to turn the firm around and improve its market position. Use of a turnaround strategy appears to be most appropriate when the firm’s decline is caused by internal actions such as improper strategy selection or poor implementation and execution of a workable. If the analysis indicates the firm’s present strategy is appropriate, then the problem is poor implementation. If the analysis indicates the firm’s present strategy is inappropriate, then the problem is improper strategy selection.
Turnaround strategies attempt to revitalize businesses in a slump. They involve a combination of cost-cutting measures and revenue-enhancing strategies (Hofer, 1980).
Before a firm elects a turnaround strategy, two questions should be asked:
- Does the firm have the capabilities to earn an acceptable level of profits in the future?
- Will the firm’s value after a successful turnaround strategy be significantly greater than its present liquidation value?
If the answer to both of these questions is yes, then the following turnaround strategies should be evaluated.
The best turnaround is the one that does not have to happen; prevention is a lot better than cure. What are some of the danger signals that indicate impending trouble? John Marris of Booz Allen & Hamilton offers 12 danger signals that are remarkably similar for both industries and companies. Companies that are in turnaround situations typically exhibit one or more to the following characteristics:
- Decreasing market share. This is perhaps the most telling signal of a major problem. It may be masked temporarily by sales increases due to market growth or inflation. However, the company’s competitive position is eroding, portending future trouble.
- Declining constant dollar sales, inflation-adjusted declines in sales in comparison to industry criteria (such as sales per square foot of retail space) indicate trouble.
- Decreasing profitability. This can show up as lower dollar profits, lower return on sales or investment, or similar measures.
- Increasing reliance on debt. A substantial increase in debt or the debt-to-equity ratio, or a lowered credit rating can cause significant problems.
- Restricted dividend policies, such as lowered or eliminated dividends. Do not confuse this with actions taken to affect a turnaround, however, once the need is recognized.
- Inadequate reinvestment in the business. Adequate reinvestment in plant, equipment, and maintenance is required for a business to remain competitive. Deferred indicates that the company is mortgaging its future for the short term.
- Proliferation of new ventures. Such actions, if done while ignoring the basic business may be attempts to cover up problems anal a search for a bailout. Diversification should supplement, not replace, the basic business of the firm.
- Lack of planning. Unplanned growth or inattention to environmental changes and strategy is sure to create problems.
- CEO resistant to the ideas of others.
- Management succession problems.
- An overly passive board.
- Inbred management. Management that feels nothing can be learned from outsiders, professional conferences, competitors, and the use is headed for trouble.
Action is Needed
While such danger signals may be present, they are valuable only if recognized and acted on. Many firms ignore such signals until it may be too late. Or management prevents action from being taken. At some point, however, the firm must face the music and someone has to intervene and take charge. Once consensus has been achieved that trouble exists, the turnaround can begin.
Extraordinary powers must be granted to those responsible for the turnaround. The “turnaround team” needs to select and focus on one or two activities offering the greatest opportunity to affect company performance. Singleness of purpose is crucial—the company cannot tolerate business as usual. The cause of the decline must be isolated and corrective actions taken. In turnaround situations, achieving a positive cash flow, not profits, becomes all important. Profit-making, but cash-absorbing, assets may have to be sold to generate cash. In any event, cash outflows must be stopped in the short run, with a goal of restoring profitability as the next step. Curtailing investments and dividend payments are obvious ways to conserve cash. Others are price increases and cost and asset reduction programs.
Four major turnaround options exist. Depending on the firm’s position in relation to its break-even point; the following actions may be taken:
- Cost-cutting strategies. If the firm has high direct labor costs, high fixed expenses, or is close to the break-even point, cost-cutting may be most appropriate. Such actions usually take effect relatively quickly.
- Asset-reduction strategies: may be needed if the firm is far from its break-even point, since there is no way to out costs sufficiently. Assets or capacity unneeded in the next two years or so should be the first to go.
- Revenue-increasing strategies. If the firm is close to covering its fixed costs and has low variable costs (such as direct labor costs), revenue increasing approaches such as price increases may be most beneficial. This option is an alternative to asset reduction strategies if the assets are likely to be needed within the next year or two. Keep in mind that revenue-increasing strategies may not pay off as quickly as cost-cutting or asset-reduction approaches.
- Combination strategies. If the firm is covering fixed costs but significantly below its break-even point, a combination of the previous three approaches may be most fruitful.
Whatever action is pursued, the focus must be on short-term cash flow, while minimizing long-term damage. Whether or not a turn-around strategy is required, keeping a low break-even point should be considered essential for any business; therefore, periodic retrenchment may be warranted. The break-even point can be kept low by automation, such as the use of robotics or, in banking, automatic teller machines. Automation provides depreciation, which labor does not. From a human standpoint, it is better to have a thriving business with 30 percent fewer people, than a business with 100 percent fewer people because of bankruptcy.
However, one must keep a core of key, motivated, and talented people. Subcontracting all nonessential activities (such as janitorial, grounds keeping, maintenance, and the like) is one way to keep the organization lean.
In summary, firms would prefer never to have to use turnaround strategies. However, because of the dynamic nature on the environment in which firms must compete, they are often forced to. The major factor causing a firm to use such strategies is declining demand. However, success is possible even in hostile environments, particularly if the firm can achieve the lowest delivered cost position and the highest product, service, and quality position in the industry. If possible, the firm should attempt to gain or defend a leadership position in the industry.