The CEO of Cleancut Textiles Inc. was turning darker shades of red as I presented the restructuring plan for his business. “That plan’s not acceptable to me!” blurted Tom Akin, a third-generation leader of the company.
Cleancut Textiles (the names are fictional) once occupied a specialty niche in the textile business. Tom and his family thought they were free of offshore competitive pressures that plagued the larger-end commodity segment of the market. As the larger producers looked for ways to diversify and spread overhead, however, they began competing on Cleancut’s turf, driving down prices and cutting into sales revenue. Cleancut’s profitability shortly went from threatened to nonexistent.
When my firm was engaged, Cleancut was in Chapter 11 and losing cash rapidly. Some of the creditors assumed that company operations would be wound down and its assets liquidated. To generate much-needed sales, the plan I proposed would have shifted sales representatives from fixed salary to commission. In addition, to save critically needed cash, I proposed zero company funding for the 401(k) plan while keeping the 401(k) intact for employee investment.
The proposed changes were modest and certainly preferable to laying off people. Almost all had come out of our meetings with managers. Nevertheless, Tom considered them radical and inconsistent with the corporate culture and his self-view. He had put together a close-knit team of managers and instituted an enlightened management style and an attractive benefits package for employees. The proposed losses in salary and benefits, he believed, would undermine the very camaraderie that had taken him so long to build. Reinforcing Tom’s view were the beliefs of the controlling family members on the board of directors. They stubbornly adhered to their position despite the company’s desperate condition.
A decade of experience with “re-engineering” has taught me that the best restructuring plan frequently fails because of the unrealistic expectations of the owners, as well as resistance to change throughout the organization. Unfortunately, other stakeholders—suppliers, customers, lenders, and other creditors—are often not any better. Their rigid expectations can also make it harder for a stumbling company to get back on its feet, thereby risking the loss of a once-good customer.
My firm works with underperforming and financially distressed businesses, many of them family owned. Typically, these companies become our clients because they need to make changes to survive, but are unable to begin and follow through on the restructuring process without third-party help. While some of our clients, like Cleancut, are in Chapter 11 proceedings, most want to avoid bankruptcy and preserve family ownership.
To accomplish that, we find that one of the essential first steps is to adjust the owners’ expectations—to develop a true picture of the company’s situation and get everyone to agree on what needs to be done to turn the business around. This agreement then leads to creation of a new business plan for the company and, in some cases, a management reorganization.
Family companies that are considering hiring a third-party change-agent need to be clear on what such a person can and cannot accomplish, how he or she works, and how their own expectations will influence whether or not the turnaround succeeds. After discussing the process, we’ll then see how the owners of Cleancut Textiles adjusted their expectations in order to achieve some, if not all, of their goals.
Why expectations are important
Family business owners who come to us have varied expectations about the solutions to their problems. At the most basic level, they hope to save the business. More specifically, most wish to save their jobs, avoid personal guarantees, restore the confidence of family stakeholders, and preserve their identity in the community. They may also wish to get back an appropriate rate of return for their investment, or to get back the money they have personally loaned the business to keep it going, or to get the back-pay or salary cut that they had to give up in lean times.
When owners adjust their expectations to fit reality, they have a good chance of turning around the business. In my experience, the success rate is roughly 85 percent. It is important to adjust expectations for the restructuring company because the typical troubled company has usually been doing nothing about much-needed changes. Frequently, what they have been doing is harmful. To stop doing wrong things, the owners have to agree on an appropriate course of action.
If a third party is called in, the outcome will be greatly affected by what the owners expect the change-agent to accomplish. The expectations can vary widely. Some CEOs are so burned out with the company’s problems that they look for a take-charge, even abrasive, consultant. Often these leaders are content to sit back and let the consultant do it. As a consequence, they often don’t supply input badly needed in the planning process, and they may even fail to implement the plan after the consultant has left. The momentum of more than one restructuring plan has been lost because of this lack of follow-through.
At the other extreme are owners who so dominate the planning process that what the consultant proposes is superficial and doesn’t get at the root of the problem. Even then, these owners may not implement the modest changes proposed.
A more balanced approach involves the owner in the planning process. This typically results in a more practical plan, better follow-through, and a more sustained effort to implement the plan after the change–agent departs.
Promoting buy-in
How should a CEO expect a change-agent to analyze the company situation and help the owners agree on an appropriate restructuring? This issue is more important than many CEOs realize.
To illustrate, I was hired by a home furnishings manufacturer whose previous consultant had simply told the family that they had mismanaged. In effect, he urged the family managers just to “get out of the way” while he turned around the business.
Now if there were nothing wrong with the way an owner has been running his or her business, it follows that there would be nothing to improve and therefore no hope of a recovery. Just because a manager makes mistakes, however, does not mean he is ready to quit. In fact, all he or she may need is qualified help. The “get-out-of-the-way-and-let-me-fix-it” approach does not leave enough room for management buy-in to the change process. Without that buy-in, the company can more easily revert to its old ways once the change–agent is out of the picture.
Ironically, many change-agents believe that convincing the owner of the need to replace himself with professional management is one of the greatest challenges in adjusting expectations. Raising the issue is difficult, of course, though some owners bring it up themselves. But this decision has to be tempered by practical considerations. Often the owner’s experience with the business and the industry outweighs any of his or her faults as a manager. The costs of hiring an outside executive and problems that person may have in working with the family must also be taken into account.
The owner of the home-furnishings company wanted very much to be involved in the turnaround process, so there could be a smooth handoff to the next generation at the conclusion of the restructuring. While we took the lead on drafting the turnaround business plan and restructuring negotiations with the lenders, the owner participated daily in every phase, providing much-needed input on company culture, industry background, and family needs and goals. The company survived and is profitable today.
The business plan and reorganization
If the owners decide to bring in a change-agent, they will have the benefit, at least for a while, of the “outside expert.” The expert can do things that family and company staff simply cannot get away with. To Dilbert followers, this implies making the job cuts the company is afraid to carry out and calling them “re-engineering.” However, the outsider’s usefulness goes far beyond downsizing.
First, the outsider can conduct an independent analysis of what’s wrong and what needs to be done. When the family owners cannot even agree on the problem, the outsider’s findings can supply the needed weight to decide a course of action. Second, the expert can act as a catalyst. Using the information he has gathered about the strengths and weaknesses of management as well as the challenges facing the company, he can facilitate the implementation of operating improvements.
The family business owners should make clear upfront that they expect the change-agent to assist in creating a new business plan for the company and, if necessary, in reorganizing its management structure. To avoid a return to “business as usual” after the change-agent departs, the owners should also make clear they expect him or her to deliver a written game plan for reorganization.
A business plan is not just a budget. It is a formal document with specific tasks and responsibilities for tasks that are assigned to specific individuals, along with a timetable for their accomplishment. The plan can be useful in keeping the family on the same page regarding actions and solutions.
The CEO of a trucking company once told me solemnly that the firm had used consultants on more than one occasion, but that the changes they had recommended were never made. Upon further investigation, our firm discovered that the previous recommendations, while on target, were addressed to just family owners and had set no priorities for all managers to achieve, family and nonfamily, or a timetable for achieving them.
Because the business plan we prepared with management’s help had specific tasks assigned to specific managers, with timetables, there was little room to evade responsibility or postpone action. Further, because every manager knew what every other manager was supposed to accomplish, no one could let down the group without everyone else knowing. Moreover, because they all had a part in developing the plan as well as a stake in the survival of the company, they had all bought into the plan. This changed expectations from resignation to excitement, and created momentum that carried the turnaround to completion.
The other technique available to the change-agent is a management reorganization. The existing management structure is sometimes one of the obstacles to change in troubled companies. There may, for example, be managers who are simply not competent, or managers in the wrong slots, or vacant slots. Such issues have to be addressed in the reorganization.
Obviously, the smaller and more closely held a company, the fewer its options. The smaller company, for example, often cannot attract a professional manager who may be badly needed, such as a chief financial officer. Further, it’s always problematic to ask the owner to replace himself as CEO.
A troubled client in the steel-fabricating industry, for example, was led by two brothers as co-presidents. Since neither brother was a very strong manager, the family wondered whether they should hire an outsider as CEO. However, our due diligence indicated that not only would the brothers fail to give the necessary deference to the nonfamily CEO, but also their salary needs did not leave enough cash to attract an acceptable, qualified CEO. The brothers thus took our recommendation to legally split the company into two operating units. Each has since been successful in running his own, smaller business.
Lenders and suppliers
Occasionally, a restructuring cannot be completed without the concurrence of outside stakeholders. In the closely held business, the bank is often a very important outside stakeholder whose financing support is critical to the success of the plan.
A formal written restructuring plan can be very helpful to gaining the bank’s support, provided the company realistically addresses the management and capital needs of the plan. When the bank has lost confidence in the family owners because of their poor business performance, the third-party expert can supply some of the missing credibility. However, the family must also convince the bank that it is totally committed to the restructuring plan.
Even more daunting is gaining the support of a syndicate of two or more banks. This task is even more complicated when lenders in the syndicate cannot agree on the best course of action. Many managers are tempted to try to divide and conquer in dealing with a syndicate, hoping to distract the syndicate’s attention from the company and its problems. Unfortunately, the managers often find that indecisiveness among the lenders can delay important decisions just when timing is critical.
How should the managers respond to this situation? By assuring that the plan calls for the maximization of the value of corporate assets—for example, by turnaround, recapitalization, sale, wind-down, liquidation, or any combination of these. Achieving maximum value should benefit not only the company but also the lenders. Communicating this plan, as well as company actions that would further it, is the best way to adjust the bank group’s expectations and get them on the company’s side.
Trade suppliers must also have sufficient confidence in the restructuring plan, the management team, and the capitalization going forward to extend adequate trade credit. However, persuading suppliers to adjust their expectations can be a nettlesome task, especially if they are forced to take a haircut on their existing debt. Some trade suppliers take the position that if they don’t get what they expect, they will block the company’s plan. Typically, besides expecting to get all their past due bills paid, suppliers expect to continue to receive cash on delivery for post-restructuring shipments.
As with lenders, communication is key to adjusting trade-supplier expectations. Trade suppliers can be advised that acceptance of the plan may mean at least a partial recovery of trade debt, while rejection may guarantee that they’ll recover nothing.
Whether the expectations being adjusted are those of the family business owners, the lenders, the trade suppliers, or some other stakeholder, it is important to be factual and consistent. The formal, written plan can address the need for objective and credible facts as well as holding the parties to a consistent message and a consistent purpose. And the existence of a change-agent will help all these causes.
Cleancut Textiles’ solution
The most challenging discussions about expectations revolve around the sale of the business, which may be necessary in extreme cases. Unfortunately in the case of Cleancut Textiles, continued family ownership would have required a huge infusion of capital. The directors would gladly have maintained family ownership if they had felt they could have attracted the needed equity. They realized this was a long shot, however. Tom Akin, the third-generation leader, saw the handwriting on the wall since he knew investor rescuers typically want to take control in a sale. The goal of the family members on the board was therefore to keep Cleancut going and achieve a turnaround because of their longtime identity with the community and good reputation.
In view of Tom’s outburst, I found it necessary to revisit the expectations he and Cleancut’s board had set at the beginning of the assignment. Those included preservation of the maximum number of jobs, preservation of the business as a going concern, and preservation of the company name. We concluded that Cleancut’s priorities seemed reasonable as well as achievable, provided the company had the money and management ability to execute a restructuring plan. We had carefully reviewed the expectations with Tom and his management team, then incorporated applicable portions in a detailed business restructuring plan.
The plan called for a management reorganization and some individual reassignments. Tom had far too many direct reports, and a few people in the wrong positions. He was very worried that any change might result in wholesale defections. But in fact, the company’s poor condition, along with the lack of any major planning for change, was doing far more than Tom realized to drive away good people than any restructuring plan could. Because the reorganization we proposed was part of an overall turnaround plan, the employees perceived it as a positive development, and no key managers were lost.
Although the plan indicated the company could be returned to at least break-even, it became clear that a turnaround required much more capital. Since the family had made clear they did not intend to put in significant funds, the plan helped them temper unrealistic expectations that they could go on as they had been, instead of focusing their efforts on fixing the business until an outside investor could be found.
Cleancut’s two product lines were sold to two separate investors, both of whom invested even more money in the two new corporations. One of the new corporations kept the company name. Both continued to operate in much the same facilities with virtually the same employees and many of the same managers. In addition to their financial strength, each of the new owners had successful track records with similar businesses. As of today, Cleancut Textiles has returned to profitability.
The original expectations of Cleancut’s family business owners were met because most of the employees kept their jobs and the corporate name survived, although in a new form and under new ownership. The latter two issues were extremely sensitive for Tom Akin and the board, and it took extensive discussion and analysis to conclude that the company was making the best choice.
Tom declined a position in either of the new companies. He was recruited as CEO of, and given an equity stake in, a new company started in a former Cleancut plant by a third investor who had reviewed the Cleancut opportunity and was impressed with Tom. Tom feels energized and fulfilled in his new challenge. As he explained, “In retrospect, we were very pleased with the results and the process. Some things turned out differently than we thought they would, with lots of emotions resulting, but we expected that would happen when we started the restructuring process.”
Baker A. Smith is a certified turnaround professional and managing director of the Atlanta, GA, office of Morris-Anderson & Associates Ltd., a crisis management and turnaround consulting firm.
The change-agent’s job
What to look for in hiring a change-agent, and requirements of the job.
- Third-party outsider.
- Rapport with the family business owners.
- Credibility with stakeholders: family, employees, lenders, suppliers.
- Analyzes the company’s situation and prospects.
- Industry experience occasionally helpful.
- Spurs owners to clarify goals and expectations.
- Guides turnaround business planning.
- Assesses capital and management needs to execute turnaround.
- Plans reorganization of management.
- Catalyst for implementation.
—B.A.S