Causes of Business Failure and Poor Leadership

by Gary Rushin

in BUSINESS STRATEGY, RESTRUCTURING

Many papers and books have been written to study the origin of business distresses, its causes, consequences, and eventually, the best way to manage these organizations to avoid failure. The best way to learn how to manage a business turnaround is to study how mistakes were committed and what strategies were used that resulted in a turnaround success. Knowing what factors, including internal and external forces, that resulted in financial distress and crisis, as well as, how to avoid future business failures are critical.

Some companies experience traumatic pain, whereas other companies attempt to change direction to lessen the impact to land between the extremes of success and failure. Depending on the level of distress, the turnaround intervention will differ. Every company has a unique set of conditions that serves as serious problems to overcome.

 

Based on the pie chart[i], common reasons of business distress come from two forces, internal causes and external causes. Figure 1, shows some of the common reasons for business distress. The reasons are not ranked in accordance of severity, however to highlight some of the common threads the caused most distress situations.

During any stage of the business life cycle, potential failure is a threat that businesses normally face. A key is to recognize signs, the signals that the business may need to be restructured in order to turn around the situation.  Each situation tends to be unique, but have common elements.

Inept Leadership/Management Caused Business Failures

What is the most important responsibility of leadership? Simply put, leadership is to identify the biggest challenges to forward progress and to devise a coherent approach to overcome them.  This rule includes providing vision and motivation and to act as the change agent. Sounds nice. But in today’s competitive and volatile business climate, one cannot afford poor leadership, as business is not as usual.

Let us strip away at the excuses, explanations, rationalizations, and justifications for business failure; in the majority of cases it is because of management. In an honest analysis, it is plausible to say, “poor leadership” can lead towards corporate insolvency. Leaders will accept the kudos of business success; however most will not take the blame for business distress, which goes with the territory.

As a restructuring professional, it is plainly true that the number one cause of business failure is management. And in most cases it is because the leaders are “in a state of denial.” The common leadership reasons for business failure, and the roles and responsibilities they play are as follows:

  • Lack of Character: Without strong character attributes encompassing ethics, a leader cannot effectively lead without the trust, confidence, and loyalty required by employees. For most, title means little when the leader garners character flaws. And respect is earned. So a leader must remember, that “when the fish stinks at the head”, the fish is bad. With the crisis of confidence in Corporate America brought about by the boards of Enron, WAMU, etc., character plays a key role in the viability of a business failure.
  • Lack of Vision: The CEO must clearly define and communicate the corporate vision. Without vision, a flawed vision, or a poorly communicated vision, executive leadership has a problem. Moreover, if the vision is not in alignment with the corporate strategies and targets, the business will shortly be in trouble.
  • Poor Branding Poor branding generally means poor leadership. Brand equity, if declining, must be blamed on the leadership.  You must question whether the leadership abdicated their responsibility while an erosion of brand equity is taking place. It is a failure in the alignment of vision with strategy for allowing the deteriorating of a brand’s promise.
  • Lack of Execution: It all comes down to execution; the implementation to ensure a certainty of execution is primary for executive leadership. Leadership must focus on deploying the necessary resources to ensure that the largest risks are adequately managed, and/or that the biggest opportunities are exploited to avoid failure.
  • Flawed Strategy: A flawed strategy simply reveals weak leadership. While there are exceptions to every rule, companies tend to succeed by design and fail by default. Show me a company with a flawed strategy and I’ll show you an incompetent leader.
  • Lack of Capital: Even well capitalized ventures fail and severely under-capitalized ventures grow into dominant brands. A lack of capital can provide a socially acceptable excuse for business failure, but it is not the reason businesses fail. Cumulating working capital and permanent working capital is ultimately the responsibility of leadership. The amount of capital required to fuel a business is based upon how the business is operated. The reality of capital constraints is a factor leadership must recognize. If leadership squanders the opportunity to obtain sufficient capital, irrespective to capital formation, the business will feel the results.
  • Poor Management: The choice of recruiting, mentoring, deploying, and retaining management talent is up to leadership. Thus it is leaders blame if is fails to act to correct mistakes, change direction, or effective execute of strategy.  It is the job of leadership to recruit, mentor, deploy, and retain management talent.
  • Lack of Sales: The lack of coherent strategy, pricing, positioning, branding, distribution, or compensation impacts revenue. A lack of sales is ultimately attributable to a lack of leadership.
  • Toxic Culture: Culture is important in business, whether it is a culture of working at Google, IBM, or at the Red Cross. It is up to leadership to recognize and “cut out” the individual or individuals that poisons a culture of a business. Nothing stifles productivity and creates conflict like a toxic culture. Hiring management or employees with different cultures must be examined to determine if issues will be developed.
  • No InnovationRemember, even Kodak was innovative, but have faltered from global competition. Leaders must create a culture of innovation or they will fall on the innovation sword. Innovation must be mission critical. As an example, textile maker, Milliken & Co., leveraged innovation to effectively compete. The strong bias for innovation by great leaders constantly recreates businesses and generates new opportunities. Leaders that are slow moving towards innovation will doomed the business.
  • Not Tackling the Market: Good leadership tracks sound market opportunities, however pursuing the wrong market, or even following the right market improperly will lead to disaster.  But also sizing a business too fast, too slow, or yet at worst not designing a scalable business correctly lacks leadership.
  • Poor Professional Advice: All entrepreneurs and CEOs require quality professional advice. “No man is an Island,” so there is no excuse to having a “blind spot” to support limitations or added recommendations to strengthen ones’ knowledge or wisdom in making informed decisions.  It is pure arrogances not to recognize the need for advice that has led many companies down the wrong path.
  • Failure to Attract and Retain Talent: Surrounding ones self with great talent attracts more talent. It is the leaderships’ blame if the company does not have good talent. This requires recognizing talent when you see it. Then it is equally important to retain it, as other opportunities may steer talent away. If that takes place, leadership is the blame.
  • Competitive Awareness: It is critical to understand the competitive landscape to navigate the enterprise successfully. Not understanding, acutely, what the competitors are doing can disable any competitive advantage the company may have, that can play an important role in business decline.

Consequently, the characteristics of the leader and that of his/her key management play an important role in the decline of the business. Be it pure incompetency and/or the lack of interest in the business can lead to distress. Five principal factor for business distress include:

  1. Autocratic rule: Many companies that went into distressed had dominant and autocratic leaders that made all major decisions in the company and did not tolerate dissent. Although this is not to say that autocratic leadership is bad, a fine line exist between leaders that bring success and leaders that lead to distress.
  2. Ineffective board: Be it board of directors or board of advisors, weak board members that lack true business acumen, ethics, and ability to stand up to management can lead to trouble. Actively engaging in the planning, resource allocation, policy-making, and approval process oversight of the company is the responsibility of the board. But unfortunately, many boards are made of the “buddies” of the CEO, “rubber stamps” management’s assertions, maintain passive oversight, and/or just sit on the board for the status and the perquisites that goes with the position.
  3. Poor management: For some companies, management act as mere administrators, maintaining the status quo, avoiding the ever-changing business environment. Most do not realize that management is about change, change to survive in the current business environment. Such inability to accept even the proposition of change has led to even great old brands being swept aside towards the rubbish bins of lost value followed shortly by the company.
  4. Lack of Management Depth: Many companies’ management lack adequate skills. The lack of management depth tends to be found in companies that have been slowing declining.
  5. Neglect of Core Business:  As companies evolve they diversify in to other areas. Such diversification can lead to business distressed. This is what happened when Gil Amelio, then CEO Apple Computer struggled in an attempt to compete with IBM in the mid 1990s. Apple operated four business units, Macintosh, Information Applications and Peripherals, and “Alternative Platforms.” With six types of Mac computers, the company was bleeding cash. Upon the return of Steve Jobs, he radically simplified the company to its core business slashing all business units to the Macintosh and selling only one type Macintosh computer[ii]. Diversification means stretched resources and focus that can lead neglect of the core business.

Also know that hubris on the part of certain leaders have led companies down the wrong path to insolvency. Pursuing inappropriate, or high-risk strategies based on false premises, have brought down some of the most highly thought of companies.

  • Take the case of American International Group (AIG) that underwrote (what was considered very profitable) credit default swaps through its London based Financial Products Group. With the 2008 financial meltdown, the U.S. government was forced to bail out the company in order to protect the U.S. financial system.
  • Look at MF Global Holdings, then ran by former head of Goldman Sachs and former N.J. governor, John Corzine. In his veal for higher earnings to offset declining core revenue, and despite warnings from two chief risk officers, embraced Greek sovereign debt despite cautionary signs of the risk of default. Because the firm was unable to meet cash collateral calls made by counterparties, MF global was forced into bankruptcy     

[i] Richard P. Remelt, “Good Strategy Bad Strategy” Crown Business 2011.



[ii] James E. Schrager, Ed. “Turnaround Management: A Guide to Common Restructuring.” Institutional Investor 2002.

 

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