Case Study: Turnaround

Finding Waldo: AHS Corporation

AHS Corporation is a pseudonym for a public company located the Northeast United States. It designs and manufactures custom engineered automated handling systems with multiple manufacturing process stations. AHS’s largest customers are Fortune 500 manufacturers.

Shrinking Profit and Margins

Although the company enjoys an excellent reputation and steady sales growth in recent years, its gross and net profit margins began to decline as steadily as its sales were growing. After three consecutive quarters of this trend, the Board of Directors intervenes and instructs management to cure the problem. The Board also retains a big four accounting firm to backstop this effort to find and fix the falling profit margins. Two quarters later, the declining the company’s sales have grown another 4.5% and yet AHS is now actually losing money each month.

Cash Reserves Depleted

After four more consecutive losing quarters, AHS’s cash reserves are gone. Now the company’s negative cash flow causes it be overextended. It pays all of its creditors late and has been cutoff by several. The stock trading plummeted. The Board is advised that the company’s soon to be issued year end financial audit will receive a qualified opinion that it may not be able to continue as a going concern.

Declining Sales & CEO Termination

ASiQ Business TurnaroundsAHS’s internal Audit Committee reports to the Board that the Accounting Firm has done an excellent job of improving the company’s cost accounting system, has materially improved management information systems, and advised the management team to raise its prices. Management reports that it has implemented the accounting firm’s pricing suggestions. Unfortunately since the price increase, sales have declined 5% then 15 % each of the past two quarters as the backlog was burned up and new orders fell off dramatically. The Board decides to terminate the CEO and bring in a turnaround executive.

Find Waldo Before We Go Broke

ASiQ’s founder is brought in as the turnaround's CEO in late June. The Chairman of the Board summarizes his view to the turnaround's CEO, "Some Directors think that we are in an industry in which you can't make money. Others think that we are just looking for a needle in haystack. I’m really not sure why this company is failing, but my hunch is that the problem is sort of in plain sight.  It’s like that children’s' book, Find Waldo. That’s the one with the nerdy guy in a striped red and white hat hidden somewhere yet visible in a crowd scene. Find Waldo before we go broke.”

Interim CEO Gets to Work

Prior to arriving at the company in July, the new CEO immerses himself in study of the company. He examines its financial, major customers, competition, major contracts, upper and middle personnel reviews, the default notices from key lenders, and management flow chart. He interviews the two senior Vice Presidents twice each. Within an hour of arriving at the company he steps before a prearranged all-hands company meeting. He arrives ten minutes early and starts walking around working the crowd, introducing himself and shaking hands, chatting briefly.

He starts the meeting on time, commenting that he appreciates the kind welcome and looks forward to meeting everyone in the coming days. He does not speak very long, making just a few points: We each and all understand that the company is unprofitable and in trouble. I do know that the company makes outstanding products and that the people in this room are the company's most important asset. I do not know what will fix the company today, but with your help we will know very shortly. Hold on to the pride you should have in the products and in each other. Meanwhile we will not go broke, we will fix what’s broke.

Asking, Listening, Thinking, Negotiating

For two and a half weeks he asks questions, listens and thinks... the questions are directed at people throughout the company. He negotiates with the creditors, the Board, the stock’s’ market makers. The situation is really grim because AHS has used up all of its goodwill with customers, vendors and lenders.

The Turnaround Plan

Business TurnaroundsIn the fourth week, The CEO rolls out the turnaround plan: he asks all employees to participate in a rescue plan under which the executives including The CEO will take a temporary 20% pay cut, all other salaried employees will take a 10% pay cut, and all hourly employees’ wages will be temporarily frozen. The temporary cuts and freeze will be over when the company has had four consecutive months of profits, and forever after that all employees of the company will share in a profit sharing plan of 15% of net cash flow distributed every six months. He discloses that the bank will forbear in its respect to the employees’ commitment if they make this temporary sacrifice. The principal vendors agree to structured payment terms if the Bank and the employees participate.

Digging Deeper, Finding Clues

The compact gets done among employees, the Bank, the vendors, and the principal lender. Product pricing is set back at market. Team meetings are set up between and among the departments. Already in week four, it is evident from chatting and listening while walking around that Production has a bad attitude towards the Engineering department. It is equally evident that Engineering reciprocates with its own bad attitude towards Production. He examines Cost of Goods Sold again looking for substantial rework and waste charges. He starts recruiting for a new CFO. It turns out that the production floor cost accounting process relieves waste and rework as fixed allocated percentage of the job and appears to not capture and record 90% of actual rework and wasted material costs. The CEO thinks he has found Waldo.

Merging Engineering and Production

In a meeting with the Engineering and Production leads, the CEO states that it appears that the system in which engineering creates custom designs while conferring frequently customers is excellent. He then observes that Engineering does not appear to confer with Production on how designs can take best advantage production knowhow and efficiency. He estimates that an average of 10% of sales is consumed by waste and rework. Discussion is heated and accusatory. The CEO wraps up the discussion with a simple statement. If we work together as an integrated team in Engineering and Production, our products will work better and cost less to make. Effective at once the departments are merged. Now tell me how the heck we are going to do that.

Sales Backlog, Margins and Morale Soar

The going is very hard for a few weeks. The CEO intervenes a few times to prod more integration and cooperation. Key individuals in both departments step up. He steps back. Cooperation between the departments changes the culture of manufacturing and design. In his financial report to employees for November, the CEO observes that AHS booked another loss…but, wait!  Sales backlog is starting to grow again and gross margins and improved by 2.5 points over monthly averages for the past four years... Morale soars. More and more employees step up with ideas for improvement. The building no longer empties at 5 PM. The company Holiday Party is a huge success.

Profitability Achieved

Now the end game race is on… sales are growing, margins are improving, but the company is still not making money. The vendors and Bank are increasingly restive. In February, The CEO has no more cards to pay, no more concessions to bargain.  The turnaround is completed in actions, but not yet outcome. Get profitable or die. It’s a leap year. On March 2nd, the new CFO dances up to the CEO as he heads for a sales meeting. “Nothing final, but you need to know my first cut is that we are going show a real profit, not a token, a real profit for February-. Congratulations!“ … deep breath… Congratulations to one and all.