Six ways to help turn around a failing small business
More than 12% of small businesses closed in 2019, with 293,260 of them exiting stage left. This closure level is hardly a shock as countless challenges threaten to sink our businesses every year and 2020 was even tougher, thanks to restrictions, lockdowns and border closures. Yet failure rates could skyrocket further in 2021 and beyond.
Business turnaround specialist Adam Smith, a director of professional services firm Aurecon and a chartered accountant, says that while the federal government suspended the insolvency laws for financially distressed businesses until December 31, 2020, the number of businesses at risk is expected to rise.
"Australian businesses that were already suffering from liquidity issues before the pandemic have only received temporary relief, with the prospect of recovery for many companies still in doubt," he says.
With JobKeeper due to end on March 28, businesses will need to be smarter, nimbler and more innovative than ever before to stand on their own two feet again.
"It could be blood on the streets," warns Simon Winter, a certified practising accountant at Raine & Horne who sells hundreds of businesses each year. Apart from JobKeeper's demise, he also expects the end of the moratorium on business insolvencies to begin to bite.
1. Pay attention to the warning signs
Apart from COVID-generated trading hits, other financial indications a small business is headed for the wall might include high debt. Other weak spots are poor cash flow, low sales, reduced profitability, high customer concentration and large wads of outstanding receivables.
Winter says poor cash flow, resulting in a lack of profitability, is the number one scourge for flailing small businesses. "A declining gross profit margin is a clear sign a business is suffering. Stumbling SMEs think they must screw their margins down to stay in the game while their sales are also declining."
Undercharging and discounting are significant errors that crunch the margins of many SMEs in decline. If your prices are so low that you can barely cover expenses, you might want to rethink your existing offerings and pricing to make the business more sustainable.
2. Review your team
However, before you start implementing any U-turn strategies, Smith says the owners of a declining SME must gather the right team internally: it must be competent enough to assess the business and support the turnaround.
"Business turnarounds are arguably when leadership matters most. Success depends on the leadership team properly assessing its financial circumstances and risks and capitalising on its strengths to resolve matters," he says.
Apart from the SME owner, Smith suggests the internal taskforce should include a legal and accounting representative, "because the turnaround will require you to have some frank discussions with your customers and suppliers and in some cases potentially renegotiate terms".
For bigger SMEs, the taskforce should be extended to senior representatives from procurement, operations and human resources. That said, Smith advises limiting the core team to avoid it getting bogged in decision making.
SMEs should seek external advice from specialists with the right experience to work with the management team.
3. Prepare a data-driven plan
Communicating the strategy through a detailed written plan is also elemental to a successful turnaround, says Smith. "It needs to be a written plan that over the first 60 days can be tweaked. The plan must remain agile enough so it can change course when something isn't working."
It should ensure resources and funding flow to the areas of the business that can immediately safeguard its survival. "As the business starts to stabilise, the written plan can evolve to include a detailed cash flow forecast, balance sheet and revised organisational structure required to take the
The correct data is also critical. "No matter what decisions you make in the first 30 to 100 days, they must be data driven," says Smith. "Following any period of downturn, people will generally be feeling uncertain. Any material decision impacting the business will need to be justified and backed up by data. Anything done by the leadership team in the immediate term that is led out of gut instinct will almost always end badly for everybody."
As for the data required for a successful turnaround, Smith says the leadership team must examine the financial and operating position to assess corporate risk and business solvency accurately. This includes a legal review of the balance sheet, profit and loss statement, cash flow statement and aged receivables. The data extraction should also include any terms and conditions negotiated with customers, suppliers and financiers.
4. Take a knife to costs
According to Winter, the best solution to turning around a flailing business lies in addressing operating costs. Typically, operating expenses may include rent, equipment, inventory, marketing, payroll, insurance, and funds allocated for research and development.
"If your operating costs are out of whack, invariably it means you start with your wages. You can let somebody go today that will have an immediate impact on your wage expense."
Aurecon's Smith says reducing labour costs is usually the first lever many organisations pull when they decide to reduce "the big-eating operating costs".
"The common mistake with this strategy is that most organisations don't properly plan for the impact of reducing labour costs," he says.
"It's very easy to cut costs by cutting people, but if you haven't done a really good assessment of the skills and expertise needed for your business during both a downturn and a recovery, you run the risk of removing the wrong people and having that experience and IP walk out the door."
"So, when your best people are wrongly removed from a business, and you start to steady the ship, you may no longer be in a position to deliver the products or services expected by your customers. A thorough assessment of all operating costs and underperforming parts of the business needs to be undertaken first before the labour card is drawn."
5. Reduce debt
Winter maintains that debt is a dirty word for small business. "If you want to have longevity, you do not want debt. You'd do anything to get rid of it. You strip down your debt because you just bleed to death daily if you've got a lot of debt and you're paying interest."
Identify the parts of the business that got it into debt in the first place and attack them head-on. For example, if customers aren't paying on time or expenses are too high, consider ramping up collection efforts.
6. Negotiate payment terms
Reconnecting with customers and renegotiating payment terms with suppliers are other ways of maximising the time needed for an SME to recover.
Smith says re-establishing relationships with customers and being transparent about the steps being taken to improve
service can help to build trust.
With suppliers, look at whether any material agreements can be re-tendered or renegotiated, suggests Smith. "The business needs to make cash flow improvement a key priority to reduce working capital pressure, as well as its capacity to service debt."
However, Winter isn't convinced that renegotiating with suppliers is a sensible move. "As soon as you go to suppliers and start trying for extended credit, the red light starts flashing.
"Where an SME is struggling, the problem usually lies with the vendor and the worst thing they can do is nothing. The recovery starts when the vendor understands how important it is that the business is profitable today, given its current sales and margins. Vendors need to accept it is imperative that they can make the hard decisions necessary to save themselves.
"The solution is in the operating costs because that is the only part of the business really within the control of the vendor. Sales and margins are hard to change because the market almost always drives them."