Parameters for Turnaround Success
As dismal as this situation appeared,
ultimately the group met the parameters required for turnaround success: a
viable core product or service, financial
resources and competent management.
The core is composed of goods or services that have positive margins or will in
the near future. Ultimately, the core is the
platform that generates profitable sales,
but only if sufficient financial resources
exist as fuel to execute and implement
recovery. Last, competent management
must exist to act as a driver of change. In
this case, massive operational restructuring was combined with debt rationalization via Chapter 11, and we convinced
the secured lender to provide additional
working capital. A CRO was appointed.
This completed a full turnaround.
Information Gathering: Key Issues
Above all, people who conduct due
diligence in the distressed organization
should proceed with speed and extreme
skepticism. When launching that fact-finding mission, consider the following:
◗ Time is everything. There is always less
of it than it appears.
◗ The information available may be very
limited in nature.
◗ The information available is almost
always flawed, imperfect or downright deceptive.
◗ This information will have a positive bias.
◗ Management will usually seek to
preserve the status quo. This will
reduce transparency and increase
the positive bias.
Here’s an actual case that highlights
Case: An Embroiderer
A few years ago, I was the CEO of a
company that did embroidery and some
garment manufacturing. It had plants
in the United States, Canada and India.
The company had been family owned for
three generations and had obvious signs
of deterioration. A preliminary look at its
affairs revealed the following:
◗ Sales had been declining slowly, and
CONDUCT DUE DILIGENCE
IN THE DISTRESSED
WITH SPEED AND
THERE IS ALWAYS
LESS OF IT
the company had lost two significant
accounts apparently without warning.
◗ The company had made little reinvestment in plant equipment or technology for several years.
◗ Capacity far exceeded production
◗ The president was a family member
and was focused upon an inappropriate internet strategy.
◗ The balance sheet appeared to have
some strength. Debt was not excessive
relative to apparent asset value.
◗ The CFO had been in place for several years. Periodic financial reporting
included both P&Ls and other reports
regarding sales margins and production.
◗ The company was operating at almost
◗ The CFO stated that the different
locations were stand-alone in terms of
legal obligations to creditors.
On the basis of this information, the
three parameters (core product, financing
and management) were present or nearly
so. A preliminary view suggested that
margins could be improved, assets could
be sold or leveraged and that management would accept necessary support.
The company also appeared to be
an ideal candidate for rationalization
or downsizing through plant closure.
However, a little more scrutiny revealed
◗ Hidden operating losses confirmed
that margins were very poor. For some
product lines, they were actually negative.
◗ Asset values were overstated. There
was a considerable amount of obsolete inventory and real estate values
were inflated. This left little room for
◗ Given these issues, it was obvious that
management was seriously deficient.
◗ Due diligence also revealed that
different plant locations had cross-guarantees outstanding to the
secured lender precluding a simple
rationalization by closing a plant. In
fact, the company was unaware of
such guarantees; I actually learned
about them from the secured lender.
The company was actually seriously deficient with respect to all three
parameters. After downsizing marginally
improved performance, ultimately it was
Veritas Vitae: Due Diligence Methodology
The primary goal of due diligence is to
provide information that supports the
turnaround-or-liquidate decision. The
process will also:
◗ Quickly outline opportunities for cost
reduction and revenue enhancement
◗ Yield insights into accounting and MIS
◗ Provide accurate historical data and
assist with pro forma planning
◗ Provide a breakdown of revenue /
expense in detail by product/depart-ment/division
◗ Enhance the capability for market