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June 28, 2018

Let’s set the scene. You are two and half years in after an acquisition. The company went through an initial value creation exercise. At the time, it looked like the investment case stacked up. The business looked commercially well positioned. Management were knowledgeable and enthusiastic and seemed to be in control of the business. The platform was stable, albeit it needed some investment.

But now it’s all looking a little soggy. The team has executed the implementation plan, but not quite with the rigour you might like. A couple of executives are looking a bit weaker now in the cold light of day. Perhaps the board meetings are becoming repetitive – a touch too overly focused on why we haven’t delivered last month.  

It’s not disaster, but a certain malaise has started to creep in. You are left wondering what to do next.

Diagnosis

First things first, action and creating pace is critical. Buy-in from all parties to a clear diagnosis is required. Whether it’s poor execution, capital structure, or the market, diagnosis is essential, as it will determine the eventual approach.

Management teams are often quick to blame the market when a company is under-performing. In reality, this is only very occasionally the case, although perhaps a little more in this age of digital disruption.  

More often the cause comes down to poor execution. Is the business clear about its value proposition to its customers? Has the business been crisp in its execution of the value plan? Is it trying to do too much, too many initiatives, too many busy people with not enough intensity?

In some other cases, often in longer term stalled situations, capital structure is impacting management performance. For example, management may effectively be out of the money, no matter what they do. As a result, there’s a fundamental misalignment between investor and management. In this situation, it’s usually preferable for all involved for the investor to take responsibility for setting the right capital structure, and ideally protect the management team’s day to day bandwidth.

This stalled situation generally represents a risk-reward trade-off. Before taking radical action, an assessment of the risks needs to take place.

Let’s be clear, the conservative (i.e. hang on and hope) approach is not going to work out well. It ignores the dynamic. Once a business is off-target, it will rarely get back on target without intervention. Moreover, typically the underperformance will worsen over time. If the team aren’t delivering now, the likelihood is that in two years’ time, they will be worn out and weary from constantly missing their targets.

Risk appetite, and the assessment of risk, can differ between investment committee, investment team, operating partner and management. Frequently there’s some inertia at the investment house; for example, with the original investment director, who will be personally invested. 

Buy-in to the diagnosis is essential to ensure all parties get behind one version of the truth. You don’t have a diagnosis until you have the right stakeholders behind it.   

Create the burning bridge   

A clear second step is to change the people in the room. This stalled situation needs fresh perspectives – from the investor, in the non-executive and potentially in the executive too.  

Nothing will change if there is no creative tension. Disagreement is part of the process of finding solutions in complex situations. If you are in a Boardroom full of senior personnel agreeing with each other, expect to see wider problems in the business.  

Fundamentally the case for change needs to be created. The management team need to buy into the need for change fully, or quietly, respectfully, move on.

Act fast. Accelerate

Once a decision has been made, don’t dawdle. There’s the familiar rhetoric of regret: “we changed the CEO six months too late”. As investor director sitting on the Board; you know that there’s a problem, but pinning it down has been slow, and the clear case for change hasn’t yet been fully made to all stakeholders. No-one is being brave enough. As a result, the situation is not addressed properly.

Acceleration is driven by simplicity and intensity. At the heart of this is prioritisation: choosing the three or four levers which will give the biggest impact on value and focusing all effort intensely on them alone. 

Rigour is also important. The level of energy that will need to be invested requires that progress is measured daily and weekly. The transformation will need to be self-sustaining, otherwise the investment will stall again. Setting a drum beat to the reviewing activity delivery and progress is often motivating in itself. 

Conclusion

In each of these situations, external advisers can play a strong support role. In diagnosis, getting to the right answer quickly, building buy-in along the way. In creating the burning bridge, as a devil’s advocate as to what good really looks like. And in acceleration, where implementation expertise can be invaluable in steering the right course at speed.

More often than not, pursuing a path with conviction will always trump sitting on the fence. As Goethe is quoted, “from the moment one definitely commits oneself, then providence moves too. All sorts of things occur to help one that would never otherwise have occurred”.

This is certainly the case when seeking to reinvigorate a stalled portfolio company.
 

This article was originally published in Real Deals.