How to distinguish good growth from bad growth in business


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How to distinguish good growth from bad growth in business

While it may seem like a fairly obvious distinction, even the best accountants and business advisors can miss the signs of a company that is experiencing ‘bad growth’.

So, what is considered bad growth? It is often characterised by:

  • growing unnecessary debt;
  • expanding the wrong kind of behaviours; and
  • allowing innocuous issues to develop into crises.

It is also often accompanied by fast growth, where potentially great companies grow so rapidly that they don’t have time to form sustainable ways of operating for the future.

‘Good growth’, on the other hand, is about:

  • growing a healthy business;
  • expanding capacity; and
  • advancing people skills.

Unsurprisingly, good growth often occurs at a much steadier and more manageable pace.

Red flags for bad growth

As a business advisor to a growing organisation, the sorts of red flags you should be on the lookout for are, but not limited, to:

  • Poor management: Growth can mean a company becomes too large for the founder/manager to be across every aspect of the business, which challenges both the management capabilities and the culture of an organisation. As a result, the business can lose its competitive advantage or the unique value proposition that allowed the business to grow in the first place.
  • Financial viability: An increase in sales does not always equal an increase in profit and or cash available to the business. For example, the increase in turnover may be achieved by taking on a larger client, but in order to secure this larger client, margins are reduced, and payment terms are extended. This action, while increasing turnover, can deplete working capital.Increased sales can also mean increased cash outflow, however, if there is also a reduced GP margin and longer terms are given, it also means a slowdown in cash inflows.  Further net profit might also be negatively impacted.  For example, take a company that acquires a business with a gross profit margin less than the marginal overhead costs and financing costs.  We had a labour hire business doing just that.  The more business they put on, the more losses they made.  This was principally because of its financing costs.  Once we paired back this aggressive growth to more organic growth, profitability and cash flow was restored.
  • Hiring & firing: Hiring the wrong people to fill positions quickly and thereby fostering a negative or otherwise undesirable company culture can have dire consequences and lead to employee turnover due to communication breakdowns.
  • Customer service & quality: Reduced quality of customer service, often due to loss of personalisation and management confusion. Plus, a danger of reduced quality of goods as focus shifts from quality to quantity.

How can you foster good growth?

At dVT Group, we work with our clients to manage the pace of growth to help with two key areas – strategic planning and forecasting. It is the development of a strategic plan, which includes sales and marketing, as well as having and practising good quality forecasting that provides true visibility over your business cash flow.

Strategic Plan

A strategic plan outlines the best way for the business to deliver growth. It determines the who, how, when, and what actions are required to deliver the growth. The plan also provides the mechanisms to track and monitor the growth, and provide levels of accountability for those responsible for delivering the growth. As well as sales and marketing requirements, an effective strategic plan also considers the business operations, HR and finance needed to achieve the growth, and to then effectively manage the growth.

Forecasting

Strategic plans need to be accompanied by forecasts that consider the current business model. They must include the current operational and management capacity and then incorporate both the CapEx and OpEx costs required to deliver the growth plans.

The aim of both the strategic plan and forecasting is that there will be no major surprises. Forecasting provides true clarity around how growth will impact your GP and NP margins and allow the business to plan accordingly.

If, for example, the business has visibility on the cash requirements, it can plan for the additional debt or equity required to fund the growth at the right times. If that additional cash needs to come from debt, the likelihood a lender will provide additional working capital facilities (at reasonable rates) is greatly increased if the business has good visibility and plans are in place to manage the growth. The strategic plan and the forecasting become tools that enable the lenders to provide the required funding.

Great visibility is key

Having visibility also means a business can make the hard but ultimately wise decision on when not to grow. This should be the case when additional resources such as cash or management skills are not readily available. This hard decision, can in certain circumstances, ultimately save a business from failure and protect the existing business.

Growth is not easy to achieve and is not always a remedy for all business problems. For a business owner to achieve it, they need to make certain investments upfront and be prepared to make changes in the business. The first investment should be into the creation of a solid strategic plan and the subsequent preparation of detailed forecasting.

Should you or one of your clients wish to talk to us about how to distinguish good growth from bad growth, contact Riad Tayeh on 02 9633 3333, email mail@dvtgroup.com.au or complete our online contact form to find out more about how we can help you.

dVT Group is a business advisory firm that specialise in business turnaround, insolvency (both corporate and personal), forensic services and business strategy support.