There has been a lot of talk recently about audit reform.
In the UK, ongoing reforms have moved a step forward and some firm recommendations have now been made. There has been a lot of criticism however that these proposed improvements stop far short of what was expected, or indeed what is needed.
So, is an auditor's prime role to protect stakeholders from corporate failure?
Is a healthy turnover of businesses good?
Insolvency per se should not be seen as disastrous for the economy, although of course it can be for the individuals concerned. I have lived through a major restructuring exercise, which saw the company I worked for shed a third of its workers to avoid all-out insolvency. It was a truly horrible experience, both for those who lost their jobs and to some extent, for those who didn't. I suffered more sleepless nights during those days than I have ever done in my career before or since.
There was another side to this though. I could see as at the time that the company was on a downward spiral. For various reasons revenues and profits were dropping alarmingly. The cost-base of the business was out of sync with these trends, and something had to give. I shared my personal concerns with the financial director in a good and helpful conversation. He said that in his view it was a case of lose a third of the staff now or lose all of them shortly after. Several decades on the company is still going and employing hundreds of staff, so maybe he was right.
Of course, businesses come and go for several reasons. Some go because they are not well managed and fail to spot the warning signs of impending problems. Others do not adapt to a changing world and put simply, find that their time has come. More often than not it is a combination of factors.
Beware the warning signs
As financial analysts, finance staff should be well equipped to spot signs of trouble. I can't give you a definitive A to Z of how to spot imminent danger as this will vary considerably from one business to another. I can however give some pointers from my own experience.
The failing employer that I mentioned above operated in a market where a significant volume of its contracts were long-term and profitable. That was both a strength and a weakness. It helped secure the company's future for several years ahead, but it could (and did) breed complacency. In theory, the business had time to adapt because of its short-term security, but it singularly failed to do so.
One reason that we acted when we did was on the back of a retrospective review of order forecasts across the previous three years. Close examination of these revealed a heavy dollop of optimism, in that the actual orders achieved always fell far short of what was expected. Further analysis uncovered more interesting information: included in all those forecasts were three or four major new contracts which we had not won. We did not think we had lost these new contracts - they had just been delayed (or "slipped to the right" as we called it). However, questioning individuals revealed that we were unlikely to ever win these contracts, and we therefore launched the restructuring process accordingly. It was very painful, but in retrospect if we had delayed it would have been much worse.
The risks facing businesses vary from sector to sector and from entity to entity. It is the job of the finance professional to understand their own business and act accordingly. Trend analysis is valuable:
- Are sales up or down? How are they trending? Is there a trend in the mix of products we are selling, from high to low profit items or vice versa?
- Similarly, what is happening to our cost base? Where is there movement? Again, up or down? Although in today's inflationary climate the former is more likely perhaps. Are there more cost-effective substitutes available? Are levels of wastage too high?
These are not new questions. Finance professionals have been dealing with these issues for time immemorial. But in today's fast-changing world they have a particular resonance.
Embrace change, or else
I recently came across some research which offers compelling evidence about how change is real.
The research compared companies in the Fortune 500 in 2015 to those listed in 1955. There were some familiar names in both lists, for example Boeing, General Motors, and Procter and Gamble. But what became of Brown Shoe, Studebaker, Zenith Electronics and National Sugar Refining? By 2015 they had been replaced by household names such as Facebook, Microsoft, Google, eBay and Netflix, none of which were even figments of the most fevered imagination back in 1955.
The chances are that if this exercise was repeated in 2075 there would be another very different list. Only 64 companies in the Fortune 500 in 1955 were still there in 2015. Many had either shrunk in size, or had gone altogether. This should provide salutary warnings for all businesses.
A cliché that I personally subscribe to is that businesses, and people, are only as good as their next job. Businesses need to ensure that they are giving their customers what they want. Finance professionals can, through astute analysis, help to identify if they are failing to do so. They can point out where outcomes are not what they should be and help to redirect resources and efforts. That would be a very useful value-adding contribution indeed.
Finance professionals must then be forward-looking and forward-thinking in our outlook. What worked yesterday might not work today, let alone tomorrow.
It's true for us as individuals too. I know from my own career that sometimes it is the right time for a change - to do something different. Trying to re-invent myself from time to time helped to keep me fresh. It didn't always work, but it was always an enervating process. As businesses and as individuals we need to adapt or die.
This is an abbreviated version of a recent News Bite, written by Wayne Bartlett and published by accountingcpd.net. News Bites is a service exclusive to accountingcpd licence holders.
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