Some businesses—no matter its size or industry—are inherently difficult to find a solution when problems arise. The Rainmaker can see the problem—a fall in sales or management ineptitude—but the true issue is to find a reason for such a problem and thus find a solution to resolve the problem. In today’s complex mesh of cross-border business, varying language and cultural barriers, different corporate and state laws and forex intricacies, it can be a daunting task to find where the problem lies, which is the starting point. Once The Rainmaker find the problem and reason for the cause in the first place he or she still have to establish the right strategy to resolve the problem, which could be poor management decisions, technical difficulties, and inadequate financial systems to correct undesired financial outcomes.
In numerous instances, a concise course of action to resolve identified problems is not easily determined, and The Rainmaker is called in to conduct troubleshooting methodologies.
This chapter looks at some methods to help you to identify possible solutions. It must be stated that human behavior does tend to complicate the identification and implementation that is required to find solutions. There are many times when a simple error in judgment caused the mistake, but managers try and cover up their error, which makes it difficult (and costly) for Rainmakers, who do not take shortcuts, to resolve the problem.
Note that, given the vastness of this topic, we are limiting troubleshooting to financial difficulties.
Identifying the Problem
The financial performance of any business can be assessed using three well-known concepts: profitability, liquidity, and solvency.
This is the most important determinant of your company’s long-term business success. In the long run, managers must earn a competitive return on these contributed resources if the business is to continue to prosper and expand. They need to continually assess the relative cost of sales, factors influencing gross profit margins, interest rates, tax rates and level of depreciation.
However, without short-term strategies and cash-flow management, there is no long term. Effectively, managers need to balance strain on cash flow with proposed plans to launch new products. In the short run, managers must earn returns to pay for variable costs, and, if not possible, then short-term solutions are needed to avoid supplier or customer legal actions.
Liquidity refers to a business’ ability to pay short-term debt
While profitability and liquidity are related concepts, many make the mistake to assume that they are the same. Unlike profit, cash flow includes loan repayments but does not include profitability factors such as depreciation, revalued inventory, or capital gains and losses.
Liquidity is thus best measured with cash-flow statements.
Solvency refers to the ability of your business to manage debt during adverse economic and market conditions. In fact, it is synonymous with owner equity. From a Rainmaker point of view, the latter serves as a source of security when acquiring debt capital during difficult economic conditions. The Rainmaker always looks at the factors that influence the company’s debt (gearing) ratio.
Solvency also indicates your business’ risk-bearing ability and is measured using a balance sheet.
To make matters worse, businesses find themselves in that predicament for more than one reason. Consultants, together with forensic auditors, will tell you that it is rare to find a situation where financial problems are caused by only one error. While financial difficulties tend to result in weakening profitability, liquidity, or solvency, the underlying cause generally tends to be associated with poor (or falling) efficiency, economy of scale of the business, and debt structure.
Efficiency refers to the direct relationship between sales and associated costs. So if efficiency is falling then the ratio is simple. Either sales are not rising at a greater rate than input costs or input costs are rising faster than sales.
However, Rainmakers will explain that there are no perfect measures of efficiency, which, to a large extent, is determined by managerial and technical skills. In larger operations, efficiency will reflect the performance of the owner as well as hired managers and workers.
As such, companies with low efficiency generally will show below-average profitability and results into losses. Improving efficiency, in the majority of cases, requires improving basic management and technical skills.
This is not easy. Ultimately, to better efficiency requires improving how you allocate your resources among different products and projects, and how organized and motivated your employees are to achieve set goals.
Economies of Scale
Scale refers to the opposite extremes of a company’s size, too large or too small.
In large or complex companies, raw material or resource input can be spread too thinly, while small firms may have higher production costs per unit, as fixed costs are also taken into account. The Rainmaker also assesses labor requirements and compares this to the existing labor supply in the area within which the company operates. In addition to labor, give allowances for the company’s use of external experts and consultants.
The Rainmaker also assesses and analyzes sales per worker. If labor costs are in excess to that required by a business, wages will adversely affect the profitability and liquidity of the business. If the scale of a business is inadequate, that is, this time the firm is too small relative to its labor supply, a number of options can be considered.
• The labor supply can be reduced through off-business employment.
• Labor utilization can be increased through expansion.
This refers to the amount of outstanding debt, term, and cost to the company. While the norm is that firms run into financial problems when their debts are excessive, it can also be a problem when they have too little debt. The latter limits its size, efficiency, growth, and earning capacity.
Debt structure influences the following:
• Profitability through interest costs.
• Liquidity through debt servicing requirements.
• Solvency through the value of the assets available to secure the firm’s liabilities.
Some debt structure problems are relatively easy to resolve, for instance, by lengthening loan terms to improve cash flow. Rainmakers are called in when debt structures involve adjusting the asset or liability structure of the business.
Usually as a last resort, CEOs will sell assets to reduce interest liabilities. Or they will sell assets that have debt service requirements in excess of their cash-generating potential. Adjusting debt structure usually requires a negotiated settlement between the borrower and the lender.
Rainmaker Observation: The first step in financial troubleshooting is to identify the type of problem that the firm is experiencing. If the problem is one of profitability, liquidity, or solvency, a strategy is established. Only an analysis of the environmental factors relative to income statements, cash flows, and balance sheets can establish the true weaknesses of a business.