Thought Piece

Across many sectors — including finance and utility where I have worked — investors too often base their view of likely results on optimistic projections which have little to do with the actual factors that drive business performance. But this doesn't need to be the case: it is possible for financial models to be based on and aligned to the business model.

Investors and those running businesses need to stop confusing business modelling with financial modelling. One problem is that the business model in many companies is not made explicit. People who work in the company know what drives performance, it is in the DNA of the business, but they often fail to see the need to communicate that to outside investors or believe it is so obvious that it needs no explanation.

Much of my time is spent producing financial planning, modelling and analysis; working with investors to ensure that they are basing their investment decisions on the reality of what is happening in the business.
At times I have been asked to work in situations where performance is failing to meet the target set out in the financial model. At that point investors — whether equity or debt — often realise they don't understand the business and that the model they are working with bears little relation to the commercial reality. So for example, if investors are presented with accounts that tell them that the revenue is below expectations, they have no detailed grasp of why that is the case. Investors need to understand what produces the revenues and costs; what impacts margins and what are likely to be the resulting cash flows.

We all know that when financial performance starts to go awry, investors become nervous. Stress levels are raised even further by the dawning realisation that they didn't understand the details of the business as well as they had initially believed. The good news is it is perfectly possible to produce plans and projections that meet the needs of investors and yet which pass the reality check of providing meaningful insight into how the business actually works.

Banks are not charities. But they do calculate the lifetime value of the customer and they understand the reputational risk to themselves of the slash and burn exercises they are sometimes accused of.

That brings us to the role of the banks, so often the largest creditor and certainly the one with the most intimate knowledge of how a company is faring. We all love a stereotype and the heartless, faceless bank pulling the plug on sound businesses over a minor blip sits deep in the business consciousness. But not all banks fit this caricature. "We want to work with management of a business facing difficulties to help identify the issues and provide solutions to get them back on track," says a senior manager with a leading retail bank. "We can make the most impact when the problems are identified early. We are keen for management to be open with us."

Banks are not charities. But they do calculate the lifetime value of the customer and they understand the reputational risk to themselves of the slash and burn exercises they are sometimes accused of. Most solutions to business difficulties involve access to more funds and/or different products (hedging, leasing, factoring) and that all adds up to continued and profitable involvement for the bank.

A Repositioning Turnaround may mean divestment of a troublesome subsidiary. It may mean embarking on (yet another) cost-cutting exercise, including turning away revenue opportunities if they are not of a sufficiently high margin. It most certainly involves a first step of getting an impartial and pragmatic overview of what the problem actually is, from Turnaround Professionals who also know the kind of language with which to talk to banks. The moment you take this kind of decisive action, you're likely to discover that there's no crisis, no drama, only urgent action that must start now.

Peter Charles 2010