Business Finance: What are some of the signs that a company might want to look at a financial rework?

Andrew P. Hines: There are the external indicators -- defaults, board members leaving, recalls -- which you see all the time.

And then there are the internal signs, which you don't see all the time but which a sharp CFO should be seeing and recognizing: slow reporting of actual financial results, inadequate sales and cash flow forecasts -- that's an absolute killer -- and lack of an early warning system that plan results could be missed. And continual changes in the forecast and drift from budget; that tells you a lot about management not being able to make plans and stick to them.

Generally, if you have continual process improvement and the right management, none of this is going to happen. But with distressed companies there has been a management inadequacy or breakdown and over a period of time there hasn't been those types of investments in process improvement.

BF: What challenges do CFOs face in this kind of situation?

APH: Most CFOs have followed the traditional career path and have never worked in troubled companies, and the subtleties of what they have to come to grips with are many times lost on them.

Generally, restructurings are not caused by immediate financial problems. They're caused by operational problems, and without question the most pervasive reason for companies' distress and possible failure is some type of management failing. Many times there are other things that cause a company to fail -- chronically sick industries, deregulation of industries, high interest rates, over-leverage, overcapacity. These are not necessarily signs of crisis, but they have an impact on the business model.

So what is the CFO facing when he sees this restructuring option coming at him? Here's what the problem is: bringing the CEO and board to the point where they accept the consequences and they don't believe that the CFO has not provided them the right numbers or that he is responsible for it happening. The CFO has to be strong enough to put into place a system that reports things accurately and can be used to adequately describe the problem to the investors or owners and the CEO. The CEO, management, and the board have to come to the realization that they're not going to restructure this company, they're not going to turn it around, and they're certainly not going to refinance it unless they know what caused the problem.

The CFO has to be the change agent who can say to the board "Hey, you've got a problem here, and this is what has caused the problem." He or she has to have the integrity and strength to articulate that.

Many times what you see happening is that companies go through a succession of CFOs. When the board wants to get rid of the problem, the first guy that goes is the CFO. "You didn't tell us this was going to happen, your numbers are no good, they're not on time, blah blah blah." The CFO is blindsided, that's why you have the fatality rate that you have for CFOs.

BF: What are some of the mistakes a CFO might make at this stage?

APH: One of the things companies do very commonly is they oversell the future earnings forecast. You see this happen all the time. Most refinancings require three years, and your first year has to be very, very tight. We know that for any numbers that are put on the table, you can take 20, 25 percent off those numbers just like that for management excess enthusiasm.

As management tries to make the thing happen so that they can survive, they will do everything in their power to convince you that the numbers are good, when what they should really be doing is to be as conservative as they possibly can so that they don't immediately have a default in their earnings ratios that's going to cost them credibility. Because once that happens, you're not going to get any financing.

BF: Any other tips for CFOs heading into a restructuring?

APH: First, don't underestimate the time needed to get it done. You're going to have to take the deal out to three or four banks, make your presentations, put the book together -- most companies don't have a book ready to go -- and do due diligence and then documentation. That's easily going to be a 60-, 90-day process.

In the interim you may need a bridge facility if your cash flow is really tight; inexperienced CFOs and CEOs are not really on to that. You may pay a little bit more, but some banks will take a chance and give you a bridge facility, which will be very helpful.

And if you haven't done it before, be prepared for the sticker shock.

Second: bankers, investors, whoever you're going to have do this, they're going to want to see a plan that shows how their risk will be cushioned and how they're going to exit. They don't want a plan that's loaded with sales fluff about "This is a great company and we've got great products in the pipeline." They'll make their own assessment. And in fact today if they have any qualms whatsoever about the management team, they are gone.

Third, get an underwritten deal if you can. Don't do it subject to underwriting -- you want an underwritten deal right away if you can arrange it so you know that the cash is there available to you right away.

And fourth, really work your financial covenants. A lot of inexperienced people think that what the bank is offering them in fixed charge ratios, capital ratios, or whatever is what they have to accept. You generally can only get 15 percent off, but that difference may be extremely important to you down the road.