Time Series Analysis Establishing a Platform for Change

In approaching the distressed enterprise, the turnaround professional's
first efforts (after measuring and handling any immediate cash crisis concerns)
are typically to gain an understanding of the enterprise. It is difficult to
fix what you do not understand.

</p><p>Frequently, many of the constituencies of a distressed firm can opine on, "How did we
get into this fix?" Lenders, investors and unions almost always have a
point of view. Professionals advising the company have likely also formed a
point of view. We deliberately interview at least the top echelon of management
to learn their perspective on the company's situation. What collectively
emerges is a somewhat blurred, conflicting picture of the company. Most
frequently we find that no one, individually or collectively, fully understands
the origins of (much less remedies for) the distress.

</p><p>Distress
is ultimately quantifiable. Generating less cash than required to support the
capital structure is "underperforming." Lack of cash or credit
availability is "distress." Being out of cash and unable to meet
payroll is "crisis." The degree of distress mandates both the
timetable and pace of change.

</p><h3>Time Series: A Useful Tool</h3>

<p>An understanding of the path to the present, without belaboring past errors in
judgment, is helpful in establishing a framework for change. In that regard, we
have found that time series analysis of key financial and operating statistics
is a useful tool in (1) reaching a shared view of the problem, (2) exposing
significant strengths and weaknesses, (3) developing a sense of appreciation in
managers and owners for the lender's perspective, (4) etching a contrast
between better and worse segments [products, branches, divisions, customers
etc.] of the enterprise, (5) highlighting trends and (6) defining the extent of
distress.

</p><p>Denial
is the handmaiden to distress. Time series results are presented graphically,
where trends are more easily recognized. As the Chinese proverb intones,
"A picture's meaning can express 10,000 words." To the extent
graphical performance review lays bare irrefutable problems, denial is overcome
and the healing process accelerated.

</p><h3>The Monthly Series Worksheet</h3>

<p>The methodology to generate the time series analysis is quick and efficient,
rapidly commands positive involvement from client personnel and, interestingly,
rapidly exposes the strength and currency of the company's data, systems
and controls. In the first days of an engagement, the Chief Financial Officer
receives our spreadsheet form to fill out. Its rows are the preceding 36 to 48
months (offering eventual carry-through into future months), its columns are a
variety of financial and performance statistics. Usually these data are not all
readily obtainable; they're dispersed across corporate databases,
extracted from paper documentation and/or require customized computer
runs—all of which makes their recapture in one place at one time all the
more illuminating. Our most basic subset of common data is shown in Exhibit 1.

</p><p></p><center><img src="/AM/images/journal/exhibit103aprfin.gif" alt="" align="middle" height="221" hspace="5" vspace="5" width="499"></center>

<p>These are nearly always enriched by a handful of company-specific operational and
balance sheet accounts, <i>e.g.,</i> (1) basic
revenue or revenue-reduction (returned goods, etc.) breakdowns pertinent to the
enterprise, (2) specific major elements of cost or cost of goods sold and (3)
company-specific accounts of importance (<i>e.g.,</i> warranty reserve, warranty claims, scrap, major
liability accruals, etc.).

</p><p>Segmented account data are either added to the initial data burden or deferred out a bit.
Typical segment data are divisional or branch accounts, including all the basic
revenue and cost accounts previously discussed, but partitioned out for each
division, each branch, each region, etc. Revenue data series may be requested
for each major product line or major customer. Underlying cost information for
each product line or customer is usually not available. We often model and
build this information, vital to sorting profitable from unprofitable business
elements, as an important part of the restructuring process.

</p><p>Finally, we may add industry-specific time series to the data request. For a
manufacturer, this might include equipment utilization rates, scrap rates,
direct labor percentage, monthly unit production and labor/material variance.
For a trucking firm, this might include empty mile percentage, revenue per
mile, unseated tractor history, revenue per tractor and driver payroll percent
of revenue. As with segment data, these data may not be tracked and/or
available, which itself speaks to the company's process control; they are
often developed in the course of the restructuring process.

</p><h3>Just One Element of the Initial Information Request</h3>

<p>This part of our initial information request in the opening days of an engagement is
daunting, we know—particularly in view of the demand that the completed
worksheet be returned to us within 1-2 weeks. The way in which the CFO and the
company respond is in itself revealing as to how they "do
business." The burden is frequently partitioned and quickly involves an
expanding web of company personnel, healthy in softening the terrain for
change. This is not business as usual. After lobbing this considerable ball to
the company side of the court, we move on to other facets of our Phase I
turnaround process directed toward understanding the business, the depth of the
cash crisis, the degree of trust and support of key constituencies, and the
underlying viability of the enterprise.

</p><h3>Data Analyses</h3>

<p>Upon return of the detailed monthly worksheet, full analytic firepower is
concentrated on extracting maximum value and understanding of the trends
contained in the data. Certain analyses are done frequently enough to qualify
as standard fare, including (1) revenue history, (2) revenue history built up
from divisions, products and segments, (3) seasonal adjustment factors (Exhibit
2), sometimes refined to
adjust for the number of work days in a month into average daily revenue from
which even more precise seasonal correction can be developed for daily sales
rates, (4) tracking of gross margin, (5) unusual cost change (Exhibit 3), (6)
bottom-line operating profit, net profit, cash flow (Exhibit 4), (7)
receivables and days of receivables (Exhibit 5, illustrating conspicuous
improvement), (8) inventory and days of inventory (Exhibit 6, illustrating a
common effect of sales and inventory slowdown—slowing turns due to the
increasing proportion of slow-moving inventory), (9) payables and days of
payables, (10) debt load and (11) outstanding credit and credit line
availability. Often we add smoothing constants and other tools to enhance
time-series analysis. These data are supplemented by other time series that enhance
understanding, as well as industry-specific and company-specific indicators.

</p><p></p><center><img src="/AM/images/journal/exhibit203aprfin.gif" alt="" align="middle" height="246" hspace="5" vspace="5" width="499">

<p><img src="/AM/images/journal/exhibit303aprfin.gif" alt="" align="middle" height="290" hspace="5" vspace="5" width="499">

</p><p><img src="/AM/images/journal/exhibit403aprfin.gif" alt="" align="middle" height="358" hspace="5" vspace="5" width="499">

</p><p><img src="/AM/images/journal/exhibit503aprfin.gif" alt="" align="middle" height="328" hspace="5" vspace="5" width="498">

</p><p><img src="/AM/images/journal/exhibit603aprfin.gif" alt="" align="middle" height="375" hspace="5" vspace="5" width="500"></p></center>

<h3>Value to the Turnaround Process</h3>

<p>While the data-gathering process may be arduous and the analysis techniques sometimes
esoteric, the ultimate product—a time-series graph that is simple to
grasp and interpret—provides a snapshot of years of past performance. For
the large proportion of the audiences we address who are not particularly
accounting-oriented or even number-oriented, the cumulative impact of often
dozens of easily-visualized time series snapshots of key indicators provides
irrefutable, objective evidence of the deterioration in company performance,
highlights the trouble spots and sounds the depths of the cash crisis.

</p><p>These charts, along with other charts and slides describing and outlining the state
of the enterprise, eloquently and blamelessly answer the question "where
are we?," drawing the constituencies into a common understanding of the
company's dilemma.

</p><p>This
is often a critical turning point in the turnaround process. The
company's plight is recognized and acknowledged, the need for positive
change made self-evident, and the dreams of providential rescue (sale,
investment, sales windfall, etc.) all but abandoned. The gates to salvation
(rehabilitation, restructuring, change, painful decisions) are open. The
turnaround process commences.