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CHAPTER
18The Entrepreneur and
the Troubled Company
18-2
McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved.
External Causes for Failure
Recession Interest rate changes Changes in government policy Inflation The entry of new competition Industry/product obsolescence
18-3
McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved.
Internal Causes for Failure
Inattention to strategic issues Misunderstood market niche Mismanaged relationships with suppliers
and customers Diversification into an unrelated business area Mousetrap myopia The big project Lack of contingency planning
18-4
McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved.
Internal Causes for Failure
General management problems Lack of management skills, experience,
and know-how Weak finance function Turnover in key management personnel Big-company influence in accounting
18-5
McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved.
Internal Causes for Failure
Poor planning, financial/accounting systems, practices, and controls Poor pricing, overextension of credit, and
excessive leverage Lack of cash budgets/projections Poor management reporting Lack of standard costing Poorly understood cost behavior
18-6
McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved.
Net-Liquid-Balance-to-TotalAssets Ratio
Net-Liquid-Balance-to-Total Assets Ratio = Net-Liquid-Balance/Total Assets
WHERE
Net-Liquid-Balance =(Cash + Marketable securities) - (Notes Payable + Contractual obligations)
Source: Joel Shulman, “Primary Rule for detecting Bankruptcy: Watch the Cash,” Financial Analyst Journal, September 1988.
18-7
McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved.
Nonquantitative Signals of Trouble
Inability to produce financial statements on time
Changes in behavior of the lead entrepreneur
Change in management or advisors, such as directors, accountants, or other professional advisors
Accountant’s opinion that is qualified and not certified
18-8
McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved.
Nonquantitative Signals of Trouble
New competition Launching of a “big project” Lower research and development
expenditures Special write-offs of assets and/or addition
of “new” liabilities Reduction of credit line
18-9
McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved.
Telltale Trends of Organizations in Trouble
Ignore outside advice People (including and usual, most
especially, the entrepreneur) have stopped making decisions and also have stopped answering the phone
Nobody in authority has talked to the employees
Rumors are flying
18-10
McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved.
Telltale Trends of Organizations in Trouble
Inventory is out of balance Accounts receivable aging is increasing Customers are becoming afraid of new
commitments A general malaise has settled in while a
still high-stressed environment exists (an unusual combination)
18-11
McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved.
Turning Around a Troubled Company
Diagnosis of the problem Strategic analysis Management analysis Cash flow analysis
18-12
McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved.
Cash Flow Analysis
Steps in identifying and quantifying the profitable core of the business Determine available cash Determine where money is going Calculate percent-of-sales ratios for
different areas of a business and then analyze trends in costs
Reconstruct the business Determine differences
18-13
McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved.
Potential Cuts/Improvements
Most common areas for potential cuts/improvements Working capital management Payroll Overcapacity and underutilized assets
18-14
McGraw-Hill/Irwin © 2004 The McGraw-Hill Companies, Inc., All Rights Reserved.
Longer-Term Remedial Actions
Systems and procedures Asset plays Creative solutions