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The End of the Art of the Turnaround

Sunday, November 4, 2012

The road back for a broken company has always been long and hard. But today it is longer and harder than ever. What’s needed is serious regulatory relief and some very big, very long overdue tort reform.

Wonder where all the jobs really went? The Obama campaign likes to blame Republican presidential candidate Mitt Romney, Bain Capital, and other corporate clean-up crews called in to figure out what to do with a business in crisis or in stasis. But all too often, such third parties are forced — often against their own counsel or ambition — to shut the business down, as quickly as possible, rather than turn it around and salvage as many jobs as they can.

Some culprits for these hair-trigger liquidations are obvious. Expansion of creditors' power under the Bankruptcy Act of 2005 is driving instant liquidations of some businesses and contributing to the mushrooming of adolescent hedge funds on the hunt for vulnerable companies. Throw in an insatiable hunger among investment banks for transaction-based fees and you have a "ready-sell-aim" mentality that now routinely wipes out salvageable companies at a crossroads.

But there is a larger, more troubling force at work: an emerging culture of caution, bordering on cowardice, in corporate governance, thanks to regulatory corporation-bashing inspired by the shenanigans of three companies — Enron, WorldCom, and Tyco — at the beginning of the millennium and galvanized by the rash of class-action lawsuits that have occurred since.

The new boardroom culture of fear is the inevitable result of growing conflict between two warring factions struggling over the fate of an imperiled enterprise. The first, the Decision Makers, are its board members, lenders, investors, and managers. They sit in the crosshairs of the second faction, the Opposing Force, comprised of angry and loud unsecured creditors, former employees, class-action litigators, and government regulators. The factions fight over numerous options for the business, but the options inevitably boil down to two: sell the company, whole or in whatever pieces they can, or tough it out and turn the company around.

The path of lesser resistance usually wins: the company is taken apart and jobs disappear. Who wants to serve on a board that turns down the immediate gratification of a sale in favor of a slow and uncertain turnaround? Anyone who thinks it easy to turn down the sale and still show their face at the next investors' conference should ask a Yahoo board member.

Anyone who thinks it easy to turn down the sale and still show their face at the next investors' conference should ask a Yahoo board member.

Rehabilitating a troubled business is not a pretty process, and its best practitioners were corporate "raiders" who the media either glorified or vilified, turning them into lightning rods for populist agitators. Remember "Chainsaw Al" or "Neutron Jack?" Hard as it was on families and communities to rebuild companies in the '80s and '90s, thanks to these masters of the art of the corporate turnaround, companies were rescued, many more jobs were saved than lost, and new people were put to work — galvanizing the vision of America as not just inventive, but re-inventive, durable enough to thrive in any global market.

That was then, this is now.

The road back for a broken company has always been long and hard. But today it is longer and harder than ever because the demands of the Opposing Force are amplified by three factors with a paralyzing effect on the culture of corporate governance. First is a sensationalist media in a feeding frenzy for any blood in the water to satisfy the demands of the same 24-hour news cycle. Second, a kudzu-like growth of the plaintiff's bar, willing to file any and all lawsuits against a standing enterprise. Third, the cumulative effect of regulatory overreach like the Sarbanes-Oxley Act.

"SOX," as the lawyers who now dominate board meetings call it, is a classic congressional real-time overreaction to the headlines of the day: again, the Terrible Trio of Enron, WorldCom, and Tyco. A law intended to root out true corporate criminals — who always have and always will attempt to outwit laws, not because the laws aren't big enough but because criminal hubris is — SOX instead has inspired paralyzing circumspection and enterprise self-destruction among the Decision Makers.

A governance culture already steeped in anxiety and dread — and thus hostile to innovation and risk-taking — is reinforced by demographics. During the last 10 years, history's largest generation of successful businesspeople has entered their 50s, 60s, and 70s. As with prior generations, these are the prime years to deploy the wealth and experience accumulated through long and successful careers, as such business leaders migrate to Decision Maker endeavors, i.e., serving on boards, joining venture capital groups, and mentoring entrepreneurs and young executives.

Unfortunately, this is the same generation that came of age during the Terrible Trio, and during Exxon-Valdez, Merck-Vioxx, the tobacco lawsuits, asbestos-mesothelioma, and the list goes on. Independent of the merits of any individual case, this generation has borne witness to a numbing succession of corporate witchhunts and legal fleecings. Decision Makers courageous enough to try to power an enterprise in crisis through a turnaround often do so merely for the benefit of the shakedown artists and bottom-feeders — an army of them now — that exist solely for the purpose of swarming any wounded business.

Hence, the inspiration for the Opposing Force.

The Sarbanes-Oxley Act has inspired paralyzing circumspection and enterprise self-destruction among the Decision Makers.

A struggling company faces intense scrutiny. Decision Makers are questioned, blamed, and shamed by the Opposing Force, and, one level down the org chart, the managers who work for them are forced to develop the quick fix. Nobody, not a Decision Maker or a member of the Opposing Force, has the patience or the risk tolerance for anything bolder, more promising, or more courageous. If a turnaround plan does not immediately gratify, it is rejected by all.

If the company cannot conjure a risk-free path to renewed or sustained profitability, the presence of the Opposing Force in the face of the Decision Makers drives everything to a sale of the company — again, in whole, in pieces, maybe overseas — often for a dime on the dollar and with an unannounced tickertape parade of pink slips for workers.

Next comes a collective sigh of relief and recitation of the new catchphrase of corporate responsibility: "we did everything we could do; somebody else will be better equipped to create value, so we made the decision to sell."

Often, that somebody else is an ocean away.

We can reverse this awful tide. But it will require serious regulatory relief, small but critical fixes to the Bankruptcy Act of 2005, and some very big, very long overdue tort reform. It will also take hard work, meaningful cooperation, and real commitment by Decision Makers and Opposing Forces — in short, culture change in corporate governance — long before their shared interest runs into trouble.

Until then, Bain Capital will serve as the new lightning rod, and Governor Romney will have to figure out how to explain the workings of a complicated business that got ugly for reasons that had nothing to do with Bain or with him.

J.D. Kleinke is a resident fellow at the American Enterprise Institute and a former health care executive. He has served on the boards of several public and private companies and as an independent adviser on corporate restructurings, mergers, acquisitions, and liquidations.

FURTHER READING: Kleinke also writes “Contraception Conundrum,” “The Conservative Case for Obamacare,” and “Health Insurers: Mind Your Own Business!” Steve Kaplan asks “How Many Jobs Did Romney Create at Bain?” Robert McHenry discusses “The Problem with Bambi-nomics.” Marc Thiessen says “Forget Bain — Obama's Public-Equity Record Is the Real Scandal.”


Image by Dianna Ingram / Bergman Group

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