Why the Answer to a Business Turnaround Isn't Cost Cutting

Business Coaching

I recently attended a conference of like-minded turnaround gurus and found myself in the company of an eager practitioner.  I asked the usual ice-breaker question, “So, what is the first thing you do to rescue a business?” And the not so surprising reply was:

 “ Stop the bleeding by cutting the expenses! Look at the all costs and cut out all the ones you don’t need”.

Wow! Just cut all the expenses until you become profitable, so simple. Well, there’s a good reason this response is both flippant and dangerous.

This response always makes me curious as I expect they would first need to do some serious work in order to figure out just what expenses to stop or cut. In turnarounds I have been involved with, cutting costs or people may actually be the final nail in coffin for the business. I start with a different approach before I look to wield the axe.

Finding The Root Cause

For starters, I take a close look at the financials. But not the financials the CFO or Accountant have provided. After all, they presided over the mess in the first place, so why would their financials tell me anything useful, as they clearly didn’t tell them anything.

Instead, I recreate the financials from bottom up using raw data from their accounting system, re-presenting the business with trends and key performance indicators. By building a fresh report it helps me to not only understand the business model, but it may also shed some light as to where to start looking for the issues. 

Next, I take off the suit and tie, change into the high vis and walk the floor (sometimes I even work on the factory floor, which can be very therapeutic after the political hotbed of the office). It’ amazing what Jim in production can tell you, such as “These idiots do 10 runs of production at 500,000 units a time, we should be doing one run of 5 million units!” Of course, one production run means one set up and one clean down. The smaller orders were unprofitable so concentrate on the high volume runs, more efficiency, more profit.

Now, its not always as simple as that, but between a clean set of financials and some time spent with the soldiers at the front line, you will often be pointed in the right direction as to where to start.

So, after a day on the production line, its back to the financials and a couple of real life examples of how they can guide a rescue.

Real Life Example

I was recently called in by a tax accountant, to work out a plan to break up a business before the owners were sent to the local court house for assaulting each other.

After years of industry success and profitable trading, they were now losing millions. As you can imagine, the stress was immense as the owners homes were now on the line.

The incumbent CFO was telling them they just needed to add more sales staff, that was the issue, so simple, make more sales.

Not understanding how they could go from years of profit to loss so quickly, I took 3 years of data from their accounting system and recreated monthly phased financials to see if I could identify a trend. It soon became pretty clear as to what the problem was. After September of each year, the profit collapsed, creating a downward-accelerating trend on the charts for two years in a row. So it was a simple question, “What did you do back then, that you are obviously not doing now?” The answer, “That’s when we changed the commission structure”.

Simple solution to that one -  Change it back!

Now, the incumbent CFO had convinced them (and himself) that the issue was about the number of sales staff, and that they just needed more of them to make it work. Of course, the CFO was the culprit who didn’t model or implement the change properly in the first place, so he wasn’t about to admit it, or maybe he just didn’t understand the psychology of sales people.

So, despite howls of “but all the staff will leave us”, I made them revert back to the old commission system. I politely suggested that staff leaving wasn’t really an issue, especially when the business would be broke in months, the staff would be gone anyway along with the owner’s homes.

After some extensive modelling, I designed a new financial plan, however, we needed to sweeten the deal for the staff in order to avoid a mass walk out. This entailed some simple low-cost concessions such as free desks, free phones, chocolate biscuits, etc. I made sure the plan was always going to be a better deal than the competition across the road. The sales agents all knew it was too good a deal to pass up and accepted the new plan. Only one agent left but he was back within 8 months.

This simple change returned the business back to where they used to be, where it is still very successful to this day. The lesson of this story? There was no need to introduce massive change or severe cuts, in order to turnaround what was always a successful and working formula.

In another recent instance, I uncovered fraudulent activity when recreating the financials from complex SAP system.

The CEO and CFO had cleverly hidden some losses in production by using the inventory obsolescence provision. By the time they had finished, they had booked about $1m of false profits and created a fake asset, a positive inventory obsolescence provision, brilliant.

Not so easy to find unless you can get the raw data and detail out of the system. As I said earlier, you can’t rely on the information the incumbent CFO gives you, as they may be hiding something.

After the discovery, explaining the facts bought us time (and sympathy) with the suppliers and more importantly, the customers. I was open with all of them and showed them exactly what had happened. The months of grace they provided allowed us to rescue the business. One major customer even gave us a substantial forward-order commitment, allowing us to go out and raise some much needed additional capital.

So a fresh set of well-presented financials can give you a guide as to where to look, and they can help in convincing others how you will turn the business around. Above all, don’t fall into the trap of looking to cut, cut, cut, without understanding the ramifications these will have on all aspects of the business.

Every company rescue is different, each case is difficult and every time there will be land mines you don’t expect, so you just need to roll up your sleeves and get on with it. That along with some creativity and experience is what makes saving a business so rewarding.

About the Author:

Daniel Fah is the CEO and a founding partner of CEO Strategic, a professional services firm providing independent specialist advisory services to Business owners, Boards and Chief Executive Officers. Our services are best suited to medium to large private operations, investee companies of private equity firms and ASX listed companies.

Daniel Fah

Director at CEO Strategic

A member of a new breed of Accounting professionals who are changing the business landscape, by combining best-practice accounting standards with cutting-edge digital technology, in order to transform the delivery and decision-making potential from financial data. A Founding Partner and currently CEO of CEO Strategic and EMR Advisory and a highly regarded specialist in the field of business restructure and turnarounds, with many high profile brand-named businesses to his credit.

Comments (2)
Daniel Fah

Daniel Fah, Director at CEO Strategic

Thanks Jef, you are absolutely right, to get back on track a business needs to engage with what the customer wants and expects. If you cut the budget too early and too deep you make it difficult to achieve this and your customers will soon look elsewhere.

Jef Lippiatt

Jef Lippiatt, Owner at Startup Chucktown

Very refreshing read. I've still been waiting for someone to show me a legit case study of a business that not only got to the top by cost-cutting but managed to stay at the top while continuing the cost-cutting. Cost-cutting is a short sighted strategy. Many times owners and management fail to consider the toll it will take on employees and customers. In my opinion having solid products and services with expected price points and great customer service are really the only 3 things a company should spend time tweaking until they are right.