Managing the challenges in operational turnarounds
Getting the keys of a company represents quite an achievement for a private equity firm. It means that among the many opportunities that are constantly identified and screened, one was pursued, negotiations were conducted and a mutually attractive deal was structured. Yet all this seems like a walk in the park compared with the challenge of actually delivering the identified value.
Gone are the days of being able to justify a deal on the back of “simple” financial re-engineering. More and more often, unlocking value requires an operational turnaround, pulling on operational levers such as strategy reboot, sales and marketing focus, process improvement within the four walls of the organisation, supply chain and procurement. This all goes beyond the traditional comfort zone of the PE deal teams, whose skills are focused on buying well and exiting at the right time. It also asks a great deal of the acquired company’s management team, who must rapidly adjust to the new owners, their expectations from the business, their views on investment, and their data requirements.
Granted that a constructive tone can be found early on, the real work of developing the turnaround plan can get underway. This is the time to reconcile the intuitive, experience based thinking of the management with the analytical, data-based thinking of the private equity investors. The first cracks usually start to appear around data availability. It is rare to find an acquired company that has systems and discipline around data enabling an immediate response to the many requests of the new owners. It generally takes a couple of years for the data discipline to be driven into the company, and this transition will put a strain on scarce resources in the IT and Finance functions.
When the analysis starts to contradict accepted views in the business, all sorts of uncomfortable questions are raised about unprofitable contracts, loss making plants, poorly located warehouses and complex product lines. Incremental evolution is usually the accepted explanation for many of these anomalies, reflecting the growth of the company or its changing priorities. The trick is to move from a defensive position to one where everyone accepts where the business is, regardless of how it got there, and sees it as an opportunity to improve through the operational turnaround.
Another cultural clash is then likely to emerge between the owners and the management team. Companies often pride themselves on the investments they make in their operations, linked to a culture where CAPEX is seen as the primary tool for improving productivity. This is in stark contrast to the expectations of the new owners, whose valuation models are highly sensitive to CAPEX assumptions, and who will be looking for short payback periods. In a subsequent iteration of the turnaround plan the management team are likely to be encouraged to look at alternatives that achieve the same financial upside with a fraction of the investment costs. The solution to improving a plant’s performance may well be to invest in new machines, but the same improvements might also come from changes to processes or working practices, or from a simplification of the product portfolio, or even a renegotiated customer or supplier contract.
The secret is to create an environment in which the management team are given the remit and the support to radically change the business. Combining the best experience with the best analysis should stretch the thinking of everyone involved, resulting in a robust plan that the business can be measured against during the first two years of ownership. During this period the company should be moving out of turnaround mode and more towards a culture of continuous improvement that allows performance to be sustained regardless of the changing business environment. Once this has been achieved it will be time for the deal team to once again come to the fore and realise the value created by the operational turnaround.