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Six Early Signs That a Company Could Be Headed for Failure

April 26, 2006|Cyndia Zwahlen | Special to The Times

Is your company headed for bankruptcy? It's not a thought most entrepreneurs and small-business owners want to entertain, but statistics indicate that only about 45% of companies make it past the four-year mark.

Business failures can be caused by outside forces such as the increase in global competition, but experts say most stem from internal weaknesses often neglected by management.

"Organizations are never clueless about the problems, but they can be paralyzed or uncertain," said corporate turnaround specialist David Auchterlonie, chief executive of Scotland Group in Newport Beach.

In California, business bankruptcies jumped 13% last year to 4,236, after declining for three years, according to the American Bankruptcy Institute. To avoid adding your company to those numbers, it is important to take quick and early action to address problems, experts say.

"Get outside help if necessary, but don't delay," said former investment banker Al Portnoy, co-chairman of the Los Angeles chapter of the Service Corps of Retired Executives, or SCORE, in Glendale.

Here are six early warning signs of potential trouble:

* Not being focused on the core business: Straying from the business' main product or service is a common problem.

Outside investments in real estate contributed to a 2001 Chapter 11 bankruptcy filing by Crazy Shirts, a T-shirt company with stores in Laguna Beach, San Diego and other cities and, at one point, a manufacturing plant in Irvine.

Founded in 1964 by Southern California native Rick Ralston, the Hawaii-based company hit sales of about $90 million before the founder lost the company in the bankruptcy. The company was unable to handle the debt it took on to make the outside investments. The firm is now healthy under new owners.

"The biggest problem was we got into major real estate investments not necessary for the business," said Ralston, now retired.

* A headstrong CEO: It takes a strong will to start and run a business, but that disposition can make it difficult for advisors to convince an entrepreneur or small-business owner that unwelcome changes are necessary.

"Entrepreneurs are typically headstrong and that's why they are successful, but it's also their weakness," Auchterlonie said.

Successful business owners understand that to take their companies to the next level of growth, they have to listen and let go of total control and the belief that they are the only ones who can do anything for the organization.

* Conversion to a new computer system: Combining computer accounting and operations systems looks like a great idea on paper, and many companies make the change without a serious hitch. Too often, though, companies find they can't shift information to the new system successfully. Then invoices don't get mailed out on time, payments are not credited properly and inventory management falters, said Auchterlonie, who has seen more of his clients in this situation lately.

"It could cause a serious problem to a business, particularly highly leveraged businesses," he said.

Careful planning by a team that includes end users as well as quality training and bite-size implementation steps can help, he said.

* Lack of a timely cash-flow forecast: "Cash is the key," Portnoy said. "Do all businesses understand that? No. The ones who stay in business do."

A 13-week cash-flow forecast is "the bible" for most successful companies, said Auchterlonie, who noted that most of his clients don't have one in place before he arrives. The forecast will show how much money is expected to be received from each major source and exactly where it is expected to be spent. It allows you to look ahead a quarter at your cash requirements. Update it weekly, comparing actual performance to the original expectations and making necessary adjustments to remain cash-flow positive.

* Lack of clarity on the profitability of each customer and product. This is one of the first things a turnaround specialist will look at. A successful company will periodically analyze what's driving its cash flow. If an organization knows which customers and products are profitable and which are on the margin, it can price the products and services correctly, Auchterlonie said.

"Sorry, but sometimes you have to fire customers," he said.

* One or two customers account for a majority of sales. Companies can get caught in a situation in which they have a few major accounts that make up the lion's share of sales. If the company loses one of the accounts to a bankruptcy or a competitor, it can face a cash crisis. Avoid over-dependence on one or two accounts, Portnoy advised.

The lesson? Be realistic and don't wait to fix problems.

"Businessmen are generally optimistic and they tend to over-focus on growth and so, as a result, all these problems occur," Portnoy said.

It's a situation with which Crazy Shirts founder Ralston is familiar.

"I think we could have made it by taking action to just cut the hell out of expenses, right away," Ralston said.

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UCLA Conference

Nolan Bushnell, founder of Atari Corp., the Chuck E. Cheese's pizza chain and UWink Inc., will speak May 12 at the annual Entrepreneurs Conference, which includes workshops and panels on diverse topics including biotechnology, franchising and family-run businesses. Visit www.uclamba.com/eac.

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Cyndia Zwahlen can be reached at cyndia.zwahlen@latimes.com.

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