The role of the CFO in a successful turnaround can be more important than at any other time in the corporate life cycle. The CFO’s importance is based on the harsh realities of difficult financial circumstances. Severe external and internal pressures cause this time to be one of test and challenge. Successful turnaround CFOs know that their role is much broader and more creative than a mere hatchet man or super cost cutter. Instead, the organization requires that financial perspective be injected into every area of decision-making and strategy. Financial management tasks differ during the emergency, stabilization, and return-to-growth stages of the turnaround.
The main responsibilities of the CFO in the emergency stage are as follows:
• Provide the bridge financing that is necessary for company survival,
• Evaluate the company’s operating units, and
• Restore financial discipline.
Bridge financing responsibility involves actions to assure that external and internal sources of cash are available to “bridge” the company until operational bleeding can be stopped. Cash is the lifeblood of any business, and you must treat negative cash flow like you would treat a human body that is bleeding. First, you have to control the bleeding by applying a tourniquet; then you analyze the nature of the wound, and perform the necessary surgical procedure to stop the bleeding permanently. In larger companies, this is more than an operational problem. It involves winning support of external lenders in the initial stage before the operational bleeding can be stopped. Debt re-financings involve complex negotiations, often with many banks.
The CFO must also quickly develop internal sources of cash by managing working capital more efficiently, gaining tight control over the cash flow pipeline and, if necessary, spinning off operations. The finance function is principally responsible for evaluating the viability of the company’s operating units. In a truly severe emergency, viability is predicated on cash flow as opposed to earnings or market growth. In some severe cases, even profitable units are sold off to protect the perceived “core” business of the company.
A viable core operation is needed to provide a large enough sales umbrella at decent margins to sustain a firm while its troubles are defined and corrected. The core must achieve positive cash flow or be in a position to quickly sustain positive cash flow. The CFO serves a pivotal role in forcing reality to overcome wishful thinking in troubled situations. An objective assessment is absolutely essential to avoid the kind of wishful thinking that precedes bankruptcy.
Of utmost importance in the emergency stage is for the CFO to restore financial discipline. Control of the cash flow pipeline involves controlling what goes out and stopping anything from coming in, if necessary. Accounts payable should be frozen until you have analyzed where you stand. There is no need to pay for things you’ve already received when critical items you need are being put on C.O.D.
A CFO’s responsibility changes in terms of degree and urgency after the emergency stage is completed. Rather than cash objectives at the expense of profits, profitability takes on a stronger role; rather than debt liquidation, the emphasis is on balance sheet enhancement; rather than cost reduction, the emphasis is on profit improvement. In addition, the company in this stage has the time and resources to develop better control and managerial accounting systems. The main financial activities are as follows:
• Liquidity improvement,
• Balance sheet restructuring,
• Control systems development, and
• Managerial accounting development.
Liquidity improvementin the stabilization stage is achieved by the institution of solid management practices. Tasks include aggressively weeding out unprofitable businesses and products and selectively increasing prices on high value lines, thereby improving margins and improving earnings and cash flow dramatically.
Balance sheet restructuringcenters on obtaining additional lender debt service concessions and restoring the balance between short- and long-term borrowings. Many troubled companies develop a severe short-term debt problem by funding long-term assets with short-term debt. A turnaround company must be careful to shrink its debt service load more than it shrinks its business.
Control systems developmentmust go beyond the cash flow pipeline controls of the emergency state and concentrate on operational control systems.
Good managerial accounting does not exist in many corporations. The managerial accounting system must profile the company’s business performance by product lines, plants, customer segments, and distribution channels. At a summary level, it should be linked to the financial accounting system.
The Return to Growth
Financial management in this stage of the turnaround more nearly resembles that of a normal company. The main financial management activities are as follows:
• Maintenance of tight financial discipline throughout the company,
• Financial evaluation of strategic growth decisions using simple financial models.
Creative financing through workout arrangements can usually enable you to stretch beyond your apparent financial strength. Successful turnaround companies focus on using capital efficiently, and they fight margin deterioration in the face of growth pressures. What sets the outstanding performance apart is the discipline they exercise in this regard. This discipline includes constant attention to prices and costs. It also includes rededication to the balance sheet and return on capital criteria abandoned earlier in the turnaround for cash flow consideration.
The CFO has a most important role to play in turning around a troubled corporation. There is probably no other time when the role of the CFO is more critical, more demanding, and more professionally rewarding than in a turnaround situation. Harvest CFO Consulting provides the financial leadership that is critical for a successful turnaround.