Private Equity and Corporate Turnarounds

During the election the terms Private Equity and Corporate Turnaround were commonplace, but they were rarely accurately described, and often portrayed in a negative light, contrary to the actual purposes of them are.

Investopedia provides an excellent and easy to understand definition.

Equity capital that is not quoted on a public exchange. Private equity consists of investors and funds that make investments directly into private companies or conduct buyouts of public companies that result in a delisting of public equity. Capital for private equity is raised from retail and institutional investors, and can be used to fund new technologies, expand working capital within an owned company, make acquisitions, or to strengthen a balance sheet.

The majority of private equity consists of institutional investors and accredited investors who can commit large sums of money for long periods of time. Private equity investments often demand long holding periods to allow for a turnaround of a distressed company or a liquidity event such as an IPO or sale to a public company.

Investopedia explains ‘Private Equity’

The size of the private equity market has grown steadily since the 1970s. Private equity firms will sometimes pool funds together to take very large public companies private. Many private equity firms conduct what are known as leveraged buyouts (LBOs), where large amounts of debt are issued to fund a large purchase. Private equity firms will then try to improve the financial results and prospects of the company in the hope of reselling the company to another firm or cashing out via an IPO.

Read more: http://www.investopedia.com/terms/p/privateequity.asp#ixzz2IpWx9o00

Corprate Turnarounds an in-depth definition provided by Wikipedia

Turnaround management is a process dedicated to corporate renewal. It uses analysis and planning to save troubled companies and returns them to solvency. Turnaround management involves management review, activity based costing, root failure causes analysis, and SWOT analysis to determine why the company is failing. Once analysis is completed, a long term strategic plan and restructuring plan are created. These plans may or may not involve a bankruptcy filing. Once approved, turnaround professionals begin to implement the plan, continually reviewing its progress and make changes to the plan as needed to ensure the company returns to solvency.

Stages in repositioning of an organization

1. The evaluation and assessment stage

2. The acute needs stage

3. The restructuring stage

4. The stabilization stage

5. The revitalization stage

The first stage is delineated as onset of decline (1). Factors that cause this circumstance are new innovations by competitors or a downturn in demand, which leads to a loss of market share and revenue. But also stable companies may find themselves in this stage, because of maladministration or the production of goods that are not interesting for customers. In public organizations are external shocks, like political or economical, reasons that could cause a destabilization of a performance.

Sometimes an onset of decline can be temporary and through a corrective action and recovery (2) been fixed.

The reposition situation (3) is the point in the process, where the minimally accepted performance is long-lasting below its limits. In empirical studies a performance of turnaround is measured through financial success indicators. These measures ignore other performance indicators such as impact on environment, welfare of staff, and corporate social responsibility. The organizational leaders need to decide, if a strategy change should happen or the current strategy be kept, which could lead on the other hand to a company takeover or an insolvency. In the public sector performances are characterized by multiple aims that are political contested and constructed. Nevertheless, are different criteria of performances used by different stakeholders and even if its use results in the same criteria, it is likely that different weights apply to them. So if a public organization is situated in a turnaround situation, it is subject to the dimensions of a performance (e.g. equity, efficiency, effectiveness) as well as its approach of their relative importance. This political point of view suggests that a miscarriage in a public service may happen when key stakeholders are ongoing dissatisfied by a performance and therefore the existence of an organisation might be unclear. In the public sector success and failure is judged by the higher bodies that bestow financial, legal, or other different resources on service providers.

If decision maker choose to take a new course, because of the realization that actions are required to prevent an ongoing decline, they need at first to search for new strategies (4). Question that need to be asked here are, if the search for a reposition strategy should be participative and decentralized or secretive and centralized or intuitive and incremental or analytic and rational. Here, the selection must be made quickly, since a second turnaround may not be possible after a new or existing poor performance. This means, that a compressed strategy process is necessary and therefore an extensive participation and analysis may be precluded. The same applies to the public sector, because the public authorities are highly visible and politically under pressure to rapidly implement a recovery plan.

Is the fifth stage reached, the selection of a new strategy (5a) has been made by the company. Especially researcher typically concentrates on this one of the reposition process. Most of them focus on the structure and its impact on the performance of the strategy that was implemented. It is even stated by the scientist, that a commercial success is again possible after a failing of the company. But different risk-averse groups, like suppliers, customers or staff may be against a change or are sceptical about the implementation of the strategy. These circumstances could result in a blockade of the realization. Also the conclusion is conceivable, that no escape strategy is found (5b), as a result that some targets can’t be achieved. In the public sector it is difficult to find a recoverable strategy, which therefore could lead to a permanent failure. The case may also be, that though a recovery plan is technically feasible, it might not be political executable.

The implication of the new strategy (6) ensues in the following sixth stage. It is a necessary determinant of organizational success and has to be a fundamental element of a valid turnaround model. Nevertheless, it is important to note, that no empirical study sets a certain turnaround strategy.

The outcomes of the turnaround strategies can result in three different ways. First of all a terminal decline (7a) may occur. This is possible for situations, where a bad strategy was chosen or a good strategy might have been implemented poorly. Another conceivable outcome is a continued failure (7b). Here is the restructuring plan failed, but dominant members within the company and the environment still believe that a repositioning is possible. If that’s the case, they need to restart at stage four and look for a new strategy. Does an outcome of the new strategy turns out to be good, a turnaround (7c) is called successful. This is achieved, when its appropriate benchmark reaches the level of commercial success, like it was the case before the onset of decline. This is commonly measured in a timeframe between two and four year.

Techniques needed for organization repositioning

There are different techniques that can be applied to cause a repositioning. The four main techniques are known as Retrenchment, Repositioning, Replacement and Renewal:

Retrenchment

The Retrenchment strategy of the turnaround management describes wide-ranging short-term actions, to reduce financial losses, to stabilize the company and to work against the problems, that caused the poor performance.[1] The essential content of the Retrenchment strategy is therefore to reduce scope and the size of a business through Shrinking Selective Strategy. This can be done by selling assets, abandoning difficult markets, stopping unprofitable production lines, downsizing and outsourcing. These procedures are used to generate resources, with the intention to utilize those for more productive activities, and prevent financial losses. Retrenchment is therefore all about an efficient orientation and a refocus on the core business.[2] Despite that many companies are inhibited to perform cutbacks, some of them manage to overcome the resistance. As a result they are able get a better market position in spite of the reductions they made[3] and increase productivity and efficiency.[4] Most practitioners even mention, that a successful turnaround without a planned retrenchment is rarely feasible.[5]

Repositioning

The Repositioning strategy, also known as entrepreneurial strategy, its main focus is to generate revenue with new innovations and change in product portfolio and market position. This includes the development of new products, entering new markets, extrapolating alternative sources of revenue and modifying the image or the mission of a company.[6]

Replacement

Replacement is a strategy, where top managers or the Chief Executive Officer (CEO) are replaced by new ones. This turnaround strategy is used, because it is theorized that new managers bring recovery and a strategic change, as a result of their different experience and backgrounds from their previous work.[7] It is also indispensable to be aware, that new CEO’s can cause problems, which are obstructive to achieve a turnaround. For an example, if they change effective organized routines or introduce new administrative overheads and guidelines.[8] Replacement is especially qualified for situations with opinionated CEO’s, which are not able to think impartial about certain problems. Instead they rely on their past experience for running the business or belittle the situation as short-termed. The established leaders fail therefore to recognize that a change in the business strategy is necessary to keep the company viable. There are also situations, where CEO’s do notice that a current strategy isn’t successful as it should be. But this hasn’t to imply, that they are capable or even qualified enough to accomplish a turnaround.[9] Is a company against a Replacement of a leader, could this end in a situation, where the declining process will be continued. As result qualified employees resign, the organisation discredits and the resources left will run out as time goes by.[10]

Renewal

With a Renewal a company pursues long-term actions, which are supposed to end in a successful managerial performance. The first step here is to analyse the existing structures within the organisation. This examination may end with a closure of some divisions, a development of new markets/ projects or an expansion in other business areas.[11] A Renewal may also lead to consequences within a company, like the removal of efficient routines or resources. On the other hand are innovative core competencies implemented, which conclude in an increase of knowledge and a stabilization of the company value.

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About Granger Whitelaw

Granger Whitelaw founded the Rocket Racing League along with partner, Peter Diamandis in 2005. See more information at http://www.grangerwhitelaw.com/blog and http://grangerwhitelaw.brandyourself.com View all posts by Granger Whitelaw

5 responses to “Private Equity and Corporate Turnarounds

  • Paul

    I’m glad I can slightly understand and comprehend the article now “Turnaround management involves management review, activity based costing, root failure causes analysis, and SWOT analysis”, I think it’s good to have private equity but anyway thanks for letting me comment and thanks for sharing this article.

  • Lara

    Businesses are really complicated and that is why it is really hard to take and study business major courses because going into the business and working on a business is not easy. I enjoyed a lot reading this one and I think this is really educational not just for me but also to others out there who want to learn something about education.

  • Shendy

    This is what I like about private equity ” Capital for private equity is raised from retail and institutional investors, and can be used to fund new technologies,”, it is so nice that you really explained well the tips and the steps and also the definitions about the topics and it is really very educational in my part. I wish to read again some of your articles next, or next week if possible. Great job and have a good day.

  • Bubble Jay

    This is first also in my list “Factors that cause this circumstance are new innovations by competitors or a downturn in demand”, because evaluating is really the first thing to do in any thing in business and I think it should really be accounted first. I always believe that planning is the first key to every plan and every action that will be made. It is best to make a reservations and plan B’s for every thing that must be done.

  • Fred

    Turnaround management has the really risky and hardest thing to do since it will revived a down company or help the slowly bankrupting company and you know it is really hard to do that successful since the company has its own reason why it failed and slowly bankrupting its assets. I believe that though business is a complicated industry or a complex thing, it can still be answered mathematically and it can be understood with basic and fundamental physics.

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