When Leaders Do Not Lead Part 2

By Prof. Enrique Soriano

 

You can get away with a great deal when times are good, but a major slump like the current crisis turns many minor issues into major problems. Good times can cover many sins, and bad times uncover many weaknesses. I highlighted that statement plucked from my article last week to emphasize one very important point, this financial and health crisis is proving to be a revealing test of leadership for founders and business owners. When the dust settles, we can either call their action (or inaction) an epic turnaround or a failed leadership.

Let’s go back to the case of A Co. the promising housing developer I mentioned last week. The company was led by a flamboyant and colorful leader that had the penchant of squandering money in different ventures without any real plan. He was a one man army that gambled on many business ventures and his many successes in the past made him an overambitious salesman without any patience for consensus decision making. In short he did not want to listen to his team, was an autocrat and with all his accomplishments, ceased to believe in the existence of failure.  To my mind, he was a staunch believer in this myth “ If you stand still, you die,”

When the crisis hit, A Co. suddenly went belly up. Overall it was a combination of external and internal blind spots that compromised the business.  But a company is as good or bad as its leaders so the real fault lies on those who run them. It was clear that the senior management team also overlooked business fundamentals. Either they were complacent or shortsighted or both.  It didn’t help that the board was in reality a paper board run by this one man army-founder. Cowed executives and directors mostly family members were there to tell him what he needed to hear. In short, he created a climate of fear among his subordinates. Any business failure is an extension of failed leadership and A Co. was a reflection of what was entirely wrong with family owned businesses.

Listening to the founder narrative, it was clear that his business was highly leveraged due to overexpansion. His aggressive campaign went beyond the company’s financial resources leading to excessive leverage. It is fundamental that loans carry a fixed interest  rate. The rate does not depend upon how well or badly the company is doing. Equity dividends do. Therefore a high leverage is a warning signal that no one should ignore. Poorly managed, sales driven companies tend to leverage the equity beyond the prudent level. When there is a negative turn in the cycle such as the COVID-19 pandemic, or if one of the business units of the family business can no longer service its debt, a chain of events leading to the firm’s demise is started.

The crisis that brings a firm  to its moment of truth can take different forms, depending on the size of the firm. For small and mid-sized enterprises, there is, in general, no crisis until severe losses threaten the business. This usually exhibits itself as a form of liquidity crisis. Management usually is unwilling to acknowledge the problem until they run out of money. In the first year, lending institutions are willing to support the company. After the first year, they start talking about restructuring, and if repayment is still in limbo by the end of this year, your friendly banker will now say, “We are going after you.”

Every founder I talk to acknowledge that the pressures are overwhelming and daunting.  The initial shock early last year due to the sudden shutdown of the global economy and sales plummeting to record lows were already hard enough; and figuring out how to restart in such an uncertain environment is, if anything, even harder.  With waves after waves of infection happening and restriction on movement re-activated, business owners will again be tested.