Workouts occur where business owners recognise issues with its business and take early action to prevent the situation from getting worse. The key is to get in early, engage with key stakeholders and come to an agreement on how to manage the business. An independent perspective is critical in this circumstance.
Recovery needs time, the earlier you start the better your chances.
Change Management is challenging but rewarding The success of any change management program hinges on a plan and more importantly buy in from key players.
Have a read of the following comments to get an understanding about the stages of failure and why it is so important to get in early.
Despite changes in governance and regulation, insolvency continues to grow. It is not surprising the business of going broke has been one of the most researched topics in business over the last seven decades (Balcaen & Ooghe, 2006a).
Every year, on average businesses operating in the construction industry will make up approximately 22% of corporate failures, business and personal services making up 23% with retail approximately 10%. The industry sector league table consistently looks like this:
- Business and Personal Services
- Property and Business Services
Clients operating in these and allied industries need extra attention.
Generally, an organisation is made up of a matrix of resources, both tangible, such as cash and intangible such as social capital and policies, including strategic and operational plans and other policies such as financial management. These resources interact in a market place and success or failure will be determined on how well these resources and policies are applied in this competitive setting (Crutzen & Van Caillie 2008).
This is clearly demonstrated by the causes of failure. The table here looks like this:
- Poor strategic management of the business
- Inadequate cash flow or high cash use
- Trading losses
- Poor financial control, including lack of records
A recent trend has been the increase in poor economic conditions as a reason for corporate failure, sneaking into the top 5 in the last three years to 2012.
In their work, Crutzen, N and Van Caille D, identified four key phases of business failure. These phases are simply identified as:
- Phase 1 – a deficiency in the resource base – no cash, no capital either financial or social and core competencies reliant on the individuals involved in the business.
- Phase 2 – appearance of failure such as no hold in the market place, low or no profitability.
- Phase 3 – critical warning signs.
- Phase 4 – insolvency.
Real focus has centred around the warning signs for insolvency and for good reason, given the risk taken by directors if they trade whilst insolvent. These signs include difficultly in realising stock or collecting debtors or cash flow difficulties. Other warning signs include not paying taxes on time, fully drawn funding facilities or defaulting on loans or dishonoured cheques and trading losses. These warning signs usually occur during late phase 3 and 4 of the Crutzen and Van Caillie model.
Waiting around and ticking off how many warning signs you demonstrate is not a great idea. Some of the warning signs, if you can get to early enough, such as arresting trading loses or collecting debtors, could leave you with some remedies to avoid collapse but some of the warning signs leave you with no option but to cease operating, not being able to pay next week’s wage bill for example.
A better idea would be to start earlier.
Picking up on warning signs sitting in and around phases 1 and 2 is difficult. These are not as well pronounced as those signs in phases 3 and 4. Some of the consequences of implementing a poor strategy for example do not become apparent until late phase 2 or 3. You could imagine the response from senior management after implementing something new on a prediction of insolvency when seemingly the business is performing or appearing to perform well.
A great example of this is the work of Kamel Mellahi, a senior lecturer in International Business at The University of Nottingham Business School on the demise of HIH. Mellahi concludes HIH started to collapse when it established its UK operations in 1993, some 7 years before the appointment of a provisional liquidator. Critically, the UK branch had started to operate in areas which HIH had little knowledge.
Both qualitative and quantitative aspects come into consideration when analysing failure at this level. Mellahi for example sensibly suggests directors must have a clear understanding of an organisation’s strategic direction, whilst at the same time being vigilant for signs that matters are not tracking as they should, especially in the case were the organisation is doing well.