Journal of Management

Toward improved theory and research on business turnaround

Toward improved theory and research on business turnaround – includes glossary of terminologies

John A. Pearce, II

The identification of appropriate managerial responses to financial decline has become increasingly important. There is mounting evidence that traditional turnaround efforts result in failure far more often than in success (Altman, 1983; Nystrom & Starbuck, 1984).

Consider, for example, that the number of business failures more than quadrupled from 1979 to 1985… the index of net business formation declined 14 percent from 1979 to 1985… American manufacturing has declined rapidly. Over two million manufacturing jobs have been lost since 1980 due to offshore competition… The steel and automobile industries closed so many plants that the industrial Midwest became known as the “rust bowl” (Cameron, Sutton, & Whetton, 1988, p.3).

Although manufacturing industries such as steel, automobiles and textiles were the first to face widespread turnaround situations, the problem is becoming increasingly common in service industries. In the financial services industry, for example, there were over 200 bank failures between 1980 and 1985–a figure that exceeded the total for the previous 40 years (Cameron et al., 1988). Unfortunately, such upheavals may be but a microcosm of the struggles that will ensue in many industrial sectors, both manufacturing and service.

Contributing to the problems encountered in managing during financial adversity is the fact that American executives have historically thought so little about it. Often, they have been seemingly transfixed by the desire for expansion. Theft priority on growth has prevailed despite warning signs including the decline of profits and profit margins (Heany, 1985), such that the preoccupation with growth is widely reported as the number one internal cause of corporate financial decline (Finkin, 1985; Goodman, 1982; Heany, 1985; Slatter, 1984; Sloma, 1985).

Academicians too, seem to have been drawn to think almost exclusively about strategic planning for strong firms–to the detriment of knowledge building on the management of troubled or declining businesses (Bibeault, 1982). The number of studies that investigate mergers, acquisitions, vertical integration, and strategic alliances far outnumber the research efforts that seek a better understanding of the increasingly prevalent cases of business downturn (c.f. Strategic Management Journal editorial review of articles published during its first 10 years of operation, January, 1991). As a consequence, the study of business level turnaround is without a unifying theory to guide its advancement.

However, useful information has resulted from the limited empirical research that has been undertaken. Research results provide evidence of a common strategic action among firms that have successfully confronted decline. This action, referred to as retrenchment, entails deliberate reductions in costs, assets, products, product lines and overhead. In short, research to date suggests that for firms facing declining financial performance, the key to successful turnaround initially rests in the effective and efficient management of the retrenchment activities (Bibeault, 1982; Hall, 1980; Heany, 1985; Moore, 1987).

Yet, little is known about when, how and in what form retrenchment should be employed as a means to halt financial decline. As explained by Behn (1983), retrenchment is a modern problem:

Many organizations have contracted and disappeared over the centuries, but the idea of managing an organization so as to make it smaller but still effective is quite contemporary. In the past, the inevitability of growth–economic, population, and technological growth–made the task of cutback unimportant … moreover for most organizations, … growth itself was a primary goal (p.310).

Consequently, research on the role of retrenchment in the turnaround process is also in its formative phase. Similarly, little attention has been paid to a financially troubled business unit’s recovery response–the set of reactions designed to profitably reposition the firm, usually after its decline has been blunted by retrenchment. Thus, the purpose of this research is to advance theory building on the management of turnaround in three ways: 1) by determining and integrating the findings from empirical research on financial decline and recovery; 2) by blending the empirical and practitioner perspectives on retrenchment and recovery; and 3) by developing a paradigm to guide future turnaround research based on a highlighting of the strengths and deficiencies of extant empirical findings. These efforts are designed to facilitate a transition from the current stage of tenuous exploratory studies to systematic theory building on turnaround.

By design, the unit of analysis for this discussion will be single business firms or strategic business units, also referred to as firms. Because each of these firms represent an independent company, or a grouping of related subsidiaries within a diversified corporation that share strategic elements, the need to consider a turnaround process is a core issue for the unit. The firms given attention will be those that experience sustained financial or competitive decline over consecutive performance periods. These declines can be either absolute or relative to prior performance levels, but they exclude precipitous drops caused by catastrophe or disaster that require a crisis response.

The need for this work on the turnaround process as a base on which to focus empirical research was succinctly stated by Meyer (1988):

Case description of failing organizations have inspired speculative theories that have informed exploratory empirical work. Not surprisingly, much of the evidence currently available is preliminary, and many of the prescriptions currently offered are contradictory … During a time period when U.S. businesses were chalking up the highest bankruptcy rates in history, most organizational scholars found themselves a long way up the empirical creek without a theoretical paddle (pp. 411-413).


From the low point of their economic performance, researched companies have experienced one of three primary outcomes in the ensuing years:

1. They were reorganized under Chapter 11 or liquidated (Altman, 1968, 1983; Argenti, 1976). The primary focus of research on these firms has been on the identification of financial indicators of impending bankruptcy that can provide early warning signals (Beaver, 1966; Miller, 1977).

2. They languished or achieved moderate improvement in performance but were never able to regain their pre-downturn level of performance (D’Aveni, 1989). Most of these studies involved businesses in industries that had passed the zenith of their life-cycles (Weitzel & Jonsson, 1989).

3. They recovered to match or even exceed their most prosperous periods of pre-downturn performance and earned the label of turnaround firms.

The underlying premise of this article is that competitive action can reverse the consequences of hostile environments or inefficient management practices. The turnaround literature proffers that patience and perseverance by the firm are rarely sufficient to produce profitable performance for the firm, even if it is attractively positioned on the product-market lifecycle (Harrigan & Porter, 1983; Pearce, 1981; 1982). We believe that a key to the achievement of turnaround is for firms to meet financial or competitive adversity with carefully considered, and thoughtfully measured cost reductions while preparing to undertake appropriate asset reconfigurations.

An important commonality can be extracted from the findings of the various research perspectives on turnaround (Ramanujam & Grant, 1989). There is evidence that a basic set of activities are present among firms that achieve turnaround following an absolute or relative decline in financial performance (Altman, 1983; Ansoff, 1977; D’Aveni, 1989; Goodman, 1982; Hall, 1980; O’Neill, 1986; Slatter, 1984). This set of activities is most frequently referred to as retrenchment. As an aid to reconciling the various terms applied to this general field of study, a brief Glossary of key terms is provided as the Appendix.

Regardless of terminology, many of these researchers agree that for the firm with eroding markets or profitability, the efforts to stabilize operations and restore profitability almost always entail strict cost reductions followed by a shrinking back to those segments of the business that have the best prospects of attractive profit margins. In fact, researchers have described such retrenchment as appropriate as an operational response to financial decline in general and as a specialized turnaround strategy (D’Aveni, 1989; Finkin, 1985; Hambrick & Schecter, 1983; Hofer, 1980; Modiano, 1987; Robbins & Pearce, 1992).

Unfortunately, and inexplicably, theory building efforts on turnaround have not included retrenchment as an integral component of turnaround strategy. This neglect is regrettable since case descriptions of firms that have achieved a reversal of financial or competitive decline inevitably refer to the presence of retrenchment as a precursor or prelude to the implementation of a successful recovery strategy (Behn, 1983; Bibeault, 1982; Finkin, 1985; Goodman, 1982; Hall, 1980).

Major Contributions to Theory Building

Nine studies have helped to provide major conceptual building blocks with which a unifying theory can be developed to guide the effective implementation of turnaround strategies for business units in financial or competitive decline. In this review of the literature, the major contributions of these works will be discussed with a special emphasis on four primary implications of their findings for theory building.

Cause of the Turnaround Situation

Schendel et al. (1976) and Schendel and Patton (1976) first considered the cause of the turnaround situation in assessing the appropriateness of turnaround strategies. The authors used a strategic-operating contingency to segment downturns that resulted from poor strategy (inability to adapt to changing TABULAR DATA OMITTED environment) from downturns that resulted from poor operations or from poor implementation of an otherwise sound strategy.

Based on their results, the authors suggested a list of “strategic cures” to achieve turnaround where the downturn was a result of bad strategy, and a list of “operating cures” to achieve turnaround where the downturn was a result of poor operational efficiency.

The primary contribution from the Schendel, et al, studies was the recognition of a relationship between cause and response among turnaround firms. They established the first turnaround model that stressed the importance of properly assessing the cause of the turnaround situation so that it could be the focus of the recovery response.

Implication 1: A theory of business firm turnaround should include consideration of the cause of the financial downturn, and recognition that strategies to affect financial recovery should include consideration of both operating and strategic components.

Turnaround Situations Severity and Retrenchment

Hofer (1980) introduced the severity of the turnaround situation into the heuristic for selecting appropriate turnaround strategies. He encouraged researchers to specify the magnitudes, time frames, and patterns and severities of performance inadequacies and declines. Hofer also conceptualized a link between severity of the downturn and the degree of cost and asset reductions that a firm should include in its recovery response. He referred to cost and asset reduction activities as operating turnaround strategies, adapting the term from Schendel et al. (1976). Operating strategies designed for cost reduction were recommended for firms in less severe turnaround situations. Drastic cost reductions coupled with asset reductions were recommended for firms in more severe turnaround situations. Although he never used the term retrenchment strategy, Hofer (1980) successfully identified its major elements.

Implication 2: A theory of business firm turnaround should couple the severity of the financial situation with the cost versus asset reduction nature of the retrenchment, i.e., more severe problems require more drastic solutions. Usually, asset reduction is more drastic than cost reduction.

Recovery Strategies

Hambrick and Schecter (1983) were the first to empirically reexamine the Schendel et al. and Hofer case-method-based propositions. Although Hambrick and Schecter’s research ignored the cause of the turnaround situation, it represented an important addition to the literature-the first use of multiple variables to represent turnaround strategy. Specifically, they set about to verify the existence of recovery strategies that were classified as entrepreneurial (revenue-generating, product/market refocusing) or efficiency (cost cutting and asset reduction).

In essence, the research question was whether these theorized strategies were in fact implemented by successful turnaround firms. The research findings supported the existence of the recovery strategies. Cost cutting, asset reduction and product/market refocusing were found in their theorized forms, while the idea of revenue-generating was best captured by a “piecemeal” strategy that was characterized by increased capacity utilization, and increased employee productivity.

O’Neill (1986) investigated the relationship of contextual factors to the effectiveness of four primary turnaround strategies: management (new head executive, new definition of business, new top management team, morale building among employees), cutback (cost cutting, financial and expense controls, replacing losing subsidiaries), growth (new product promotion methods, entering new product areas, acquisitions, add markets), and restructuring (change in organizational structure, new manufacturing methods). His model correctly predicted a negative relationship between growth strategies and turnaround success where there were strong competitive pressures. Where firms were in weak market positions, success was found for cutback and restructuring strategies.

The major contribution from the Hambrick and Schecter (1983) and O’Neill (1986) studies was the validation of the efficiency approach to recovery. In fact, there was evidence that for firms competing in mature or declining industries, efficiency or operating recovery strategies offered the best prospects for successful turnaround. This was an important contribution. For the first time, retrenchment (cost cutting and asset reducing) was found to be sufficient under certain circumstances to reestablish the long term viability of the firm. That is, firms were observed to achieve recovery without relying on a “return*to-growth” initiative.

Implication 3: A theory of business firm turnaround should include the option of post-retrenchment recovery strategies that range from efficiency to entrepreneurial in orientation.

A Multistage Perspective of the Turnaround Process

In writing for management practitioners, Bibeault (1982) was the first author to discuss a multistage model of turnaround. Based on his observations, he proposed that turnaround was typically accomplished through a two stage process.

The first stage involved an emergency plan to halt the firm’s financial hemorrhaging and a stabilization plan to streamline and improve core operations. These plans combined to produce the firm’s retrenchment stage. Bibeault’s second phase involved a return-to-growth or recovery stage. While there was some support within the practitioner literature for a multi-stage approach (Bibeault, 1982; Goodman, 1982; Slatter, 1984), the idea has received scant empirical testing (Grinyer, Mayes, & McKiernan, 1988; 1990).

In Bibeault’s (1982) view, turnaround involved a two-stage process for a firm. The initial stage was directed toward the primary objectives of survival and achievement of a positive cash flow. The means to achieve these objectives encompassed the classic retrenchment activities: liquidation, divestment, product elimination, and head count cuts. The advanced stage of the turnaround process shifts toward objectives of growth and development, and growth in market share. The means employed for achieving these objectives are acquisitions, new products, new markets, and increased market penetration.

Between these two stages, Bibeault speculated that a decision was needed on a strategy for the firm. As the rate of financial decline approaches zero, the firm must decide whether it will pursue recovery in its retrenchment-reduced form through a scaled-back version of its preexisting strategy, or whether it will shift to a return-to-growth stage. It is at this point that the ultimate direction of the turnaround strategy becomes clear. Essentially, the firm must choose either to continue to pursue retrenchment as its dominant strategy or to couple the retrenchment stage with a new recovery strategy that emphasizes growth.

Bibeault’s major contribution to the development of the turnaround literature was his separation of retrenchment from the concept of recovery. He argued that it was possible and enlightening to observe retrenchment as an isolated phenomenon and as a precursor to recovery activities.

In discussing the two stages, Bibeault was in agreement with Hofer (1980) that the degree and duration of the retrenchment phase should be based on the firm’s financial health. He further posited that the recovery phase should be formulated in response to the cause of the decline. He placed special emphasis on the role of retrenchment in providing a stable base from which to launch a recovery phase of the turnaround process.

Grinyer, Mayes, and McKiernan (1988; 1990) and Grinyer and McKiernan (1990) studied the causes of decline, events triggering change, actions taken, and performance characteristics among 25 companies in the U.K. that achieved a sharply improved level of performance. The study offered empirical support for the notion of stages in turnaround actions though the researchers did not objectively measure turnaround situation severity or retrenchment strategy. Although the researchers considered turnaround (i.e., forced change) to represent a different research stream than unforced change, they acknowledged many conceptual similarities.

Robbins and Pearce (1992) investigated the textile industry during the economic and competitive turmoil of the 1980s. Their study of 32 publicly held textile manufacturing firms provided evidence that retrenchment was a critical first stage for the strategies undertaken by companies that successfully achieved turnaround. Further, Robbins and Pearce found that the severity of the turnaround situation was the best indicator of the type and extent of retrenchment that was needed, although an immediate cost cutting response to financial decline (absolute and relative to the industry) was consistently found to be of value. The researchers also presented a model of turnaround based on evidence that business firm turnaround characteristically involved a multi-stage process in which retrenchment could serve as either a grand or operating strategy.

The question remains however, as to why retrenchment is so frequently an appropriate first step in an overall turnaround process. One possible explanation is that economic decline diminishes the firm’s resource slack. Cost retrenchment helps to preserve what remains. Resource flexibility provides additional slack and is achieved through asset redeployment (entrepreneurial reconfiguration). Resource flexibility must be substituted for slack that has been largely depleted, or when the heightened requirements of strategic redirection place additional demands on the firm for resources. These heightened requirements stem from concurrent demands on the firm to overcome the destructive momentum of the established strategy and to cover the high startup costs of implementing the new strategic initiatives. Consequently, retrenchment may be necessary to stabilize the situation by securing or providing slack regardless of the recovery strategy that is chosen.

Implication 4: A theory of business firm turnaround should accommodate the possibility that a turnaround process is multi-staged, involving both retrenchment and recovery activities.

A Model of the Turnaround Process

The implications from prior research have been assimilated and used as the building blocks for a Model of the Turnaround Process. This illustrative model depicts the inter-relationships between causes and severity of the turnaround situation, and between the retrenchment and recovery stages of the turnaround response. Further, it shows three principal ways by which the turnaround situation and turnaround response arc likely to be linked.

Reference is made to “a” model–not “the” model–of turnaround to reflect the fact that differences in turnaround candidates and in their environmental contexts may necessitate different turnaround models. Researchers who choose different types of organizations to study or who place different requirements on their inclusion as turnaround candidates may find that different models of turnaround processes should be investigated. As the understanding of turnaround becomes more complete, theory builders may even find it useful to pair different turnaround models with different turnaround situation causes or severities.

The following discussion highlights the flow of our model, with justification for the inclusion of each of its elements in terms of the ways by which the model builds incrementally on past research.

A turnaround situation exists when a firm encounters multiple years of declining financial performance subsequent to a period of prosperity (Bibeault, 1982; Hambrick & Schecter, 1983; Schendel et al., 1976; Zammuto & Cameron, 1985). Turnaround situations are caused by combinations of external and internal factors (Finkin, 1985; Heany, 1985; Schendel et al., 1976) and may be the result of years of gradual slowdown or months of precipitous financial decline. The immediacy of the resulting threat to company survival posed by the turnaround situation is known as situation severity (Altman, 1968; 1983; Bibeault, 1982; Hofer, 1980). Low levels of severity are indicated by declines in sales or income margins, while extremely high severity would be signaled by imminent bankruptcy.

Turnaround responses among successful firms typically include two stages of strategic activities (Bibeault, 1982; Goodman, 1982; Slatter, 1984; Sloma, 1985): retrenchment and recovery. Retrenchment consists of a combination of cost cutting and asset reducing activities (Hambrick & Schecter, 1983; Hofer, 1980; O’Neill, 1986). The primary objective of the retrenchment phase is to stabilize the firm’s financial condition (Bibeault, 1982; Sloma, 1985). Situation severity has been associated with retrenchment responses among successful turnaround firms (Bibeault, 1982; Hofer, 1980). Firms in danger of bankruptcy or failure (i.e., severe situations) have achieved stability, i.e., a halting of the decline, through cost and asset reductions. Firms in less severe situations have achieved stability merely through cost retrenchment.

The primary causes of the turnaround situation have been associated with the second phase of the turnaround process, the recovery response (Hofer, 1980; Schendel & Patton, 1976; Schendel et al., 1976; Smart & Vertinsky, 1984). For firms that declined primarily as a result of external problems, turnaround has most often been achieved through strategies based on an entrepreneurially driven reconfiguration of business assets. For firms that declined primarily as a result of internal problems, turnaround has been most frequently achieved through recovery responses that were heavily weighted toward efficiency maintenance strategies. Recovery is said to have been achieved when economic measures indicate that the firm has regained its pre-downturn levels of performance.

The Logic Flow of the Model

The Model of the Turnaround Process begins with a depiction of external and internal factors as causes of a firm’s performance downturn. If these factors continue to detrimentally impact the firm, its financial health is threatened. Unchecked financial decline places the firm in a turnaround situation. In this model, a turnaround situation represents absolute and relative-to-industry declining performance of a sufficient magnitude to warrant explicit turnaround actions.

The nature, extent and speed of the appropriate strategic response depends primarily on two dimensions of the turnaround situation: severity and causality.

Severity of the turnaround situation is a measure of the firm’s financial health; it gauges the magnitude of the threat to company survival. Since the immediate concern to the firm is the extent to which the decline is a threat to its short-term survival, severity is the governing factor in estimating the speed with which the retrenchment response will be formulated and activated. Of course, performance that declines relative to that of competitors, but not absolutely, may necessitate almost no retrenchment. Rather, a reconsideration of strategy with a probable reconfiguration of assets would usually be deemed appropriate.

When severity is low, a firm has some financial cushion. Stability may be achieved through cost retrenchment alone. When the turnaround situation severity is high, a firm must immediately stabilize the decline or bankruptcy is imminent. Cost reductions must be supplemented with more drastic asset reduction measures. Assets targeted for divestiture are those determined to be underproductive. In contrast, more productive resources are protected from cuts or reconfigured as critical elements of the future core business plan of the company, i.e., the intended recovery response.

The search for an appropriate recovery response is based on an assessment of causality. This assessment requires a determination of the relative roles of operational inefficiency and strategic misalignment in contributing to the firm’s financial decline.

As the model suggests, as external causality increases relative to internal causality, entrepreneurial reconfiguration activities are more appropriate in the recovery phase of the turnaround process. As internal causality increases relative to external causality, efficiency maintenance activities are more appropriate. In either case, the recovery phase of the turnaround process is likely to be more successful in accomplishing turnaround when it is preceded by proactively structured retrenchment which results in the achievement of near-term financial stabilization.

Methodological Recommendations for Future Researchers

To test the Model of the Turnaround Process or other conceptualizations of the dynamics involved in retrenchment and recovery, the traditional methodologies of turnaround research require upgrading. Our review of the turnaround research suggests that to enhance the validity and reproducibility of future studies, four needs must be addressed:

1. The need for consistency in terminology.

2. The need for more specific and objective operationalizations of turnaround situations and turnaround success.

3. The need to empirically assess the presumption that cause of the downturn should determine the turnaround response.

4. The need for a research methodology that permits analysis of stages in the turnaround process.

Need 1: Consistency in Terminology

Literature on the strategic behavior of businesses that have confronted adverse circumstances has been fraught with inconsistent terminology and inconsistent application of commonly used terms. As over-viewed in Table 2, the Model attempts to reconcile these inconsistencies in recognition of their inhibiting effect on efforts to advance theory building on business firm turnaround in an incremental manner.

Definitional problems and inconsistencies have slowed empirical progress. For example, as shown in Table 2, two very different terms have been used to describe the type of recovery strategy that represents a radical departure from a firm’s past competitive posture: strategic turnaround and entrepreneurial strategy. Worse by comparison, four different terms appear in the literature to denote turnaround responses that focus on internally-oriented actions: operating, turnaround, efficiency, and adaptive strategies. Regrettably, the authors who have employed these various terms rarely mentioned the inconsistencies in the literature.

Contributing to the problem of creating new terms to define familiar concepts has been the complexity and subjectivity of the operational definition of key turnaround terms. One example has been the usage of the strategic and operating classifications to define various turnaround strategies and, in the case of Schendel et al. (1976) study, to define the cause of the problem as well. They cited increased competition, raw materials shortages, and decreased profit margins as strategic causes of performance downturns while classifying factors such as strikes and labor problems, excess plant capacity, and depressed price levels as operating problems.

Their rationale is sometimes difficult to follow. Why, for instance, would decreased profit margins be considered “strategic” but depressed price levels be labelled as “operating?” While some would argue that the two refer to the same set of circumstances, many more would consider diminished profits as connoting problems of efficiency and therefore more operating by nature. The opposite would be true of depressed price levels, assuming a constant level of product and service quality. Since prices are determined on the open market, usually irrespective of the influences of single firms, there is a good argument for calling this a strategic problem that should have been anticipated and addressed through the strategic planning process.

Interpretation of firms’ responses to declining performance as strategic or operating has been at least as problematic. The typical approach has been to conduct a case analysis and then attempt to judge whether the observed moves TABULAR DATA OMITTED were accompanied by a strategy change (strategic) or not (operating). Hambrick and Schecter (1983) first recognized the limitations of this technique. They noted that it would be exceedingly difficult to classify a set of moves as one or the other without some coincident familiarity with the firm’s strategic objectives. Consequently, the findings of past research offer little in the way of generalizable results.

As part of their solution, Hambrick and Schecter (1983) recommended an entrepreneurial/efficiency classification scheme. Entrepreneurial turnaround strategies involved doing things differently whereas efficiency turnaround strategies entailed doing the same things on a smaller or more efficient scale. Revenue generating through product reintroduction, increased advertising and selling efforts, and lower prices represented at least modifications in existing strategy and were therefore classified as entrepreneurial turnaround strategies. Put another way, entrepreneurial turnaround strategies involved product or market based activities; efficiency strategies focused on the production and management systems within the firm.

As attractive as the Hambrick and Schecter (1983) contribution appears to be, no published turnaround research has adopted their recommendation. The problem may be that their dichotomous scheme is subject to the same criticisms as the operating/strategic approach. The modification offered in the model provides a promising solution to the problem. By viewing the design of the recovery strategy as one that can incorporate both efficiency and entrepreneurial elements, the artificial forced choice quality of the process would be greatly reduced and the precision in classifying the chosen strategy would be much improved.

Need 2: Improved Operationalizations of Turnaround Situation and Success

Researchers have been inconsistent, and at times negligent, in defining the conditions warranting the label of turnaround situation. Just how pronounced must the problems become before the firm is in need of a turnaround? Some researchers never defined requisite conditions; others have done so only loosely.

Hofer (1980) offered no operationalized definition of a turnaround situation. Goodman (1982) stated that any firm whose earnings were “consistently” below the industry average was in need of a turnaround. According to Heany (1985) a firm was in a turnaround situation if its pre-tax and pre-interest return on investment (ROI) regularly fell below 10 percent. Bibeault (1982) considered a firm to be in a turnaround situation if it had experienced three years of sustained, but not necessarily monotonic decline in net income. Schendel and Patton (1976) described the turnaround situation as at least four years of sub-gross national product (GNP) growth in income while Hambrick and Schecter (1983) considered a firm to be in need of a turnaround if its average two-year ROI was below 10 percent.

These inconsistencies point to a fundamental shortcoming in turnaround research–the failure of researchers to achieve consensus on an appropriate definition and threshold measure of the firm performance that indicate the TABULAR DATA OMITTED beginning and end of a turnaround situation (Chakravarthy, 1986). The issue of the relative and combinational values of various financial and market measures of firm performance have yet to be conceptually or empirically addressed.

Another vexing issue is the level of performance that a firm must subsequently achieve in order to be classified as a successful turnaround firm (as opposed to non-turnaround firm). For some researchers the decision has been viewed as a function of the conditions signifying the turnaround situation. Recall for instance, that Schendel and Patton (1976) considered a firm to be in a turnaround situation if it had experienced at least four successive years of sub-GNP growth in net income. If that firm subsequently experienced at least four years of above GNP growth in net income, it was considered to be a turnaround (successful) firm. If it did not, it was labelled as a non-turnaround (unsuccessful). Therefore, successful turnaround required a financial recovery-adjusted for GNP-that enabled the firm to match or exceed its performance prior to the downturn that had signalled the existence of a turnaround situation.

Another shortcoming that has weakened empirical research is the absence of comparative industry data for use in the operationalizations of turnaround situation and turnaround success. Under previous operationalizations, this absence has permitted firms in highly cyclical industries to encounter turnaround situations and achieve successful turnaround with each cycle of the economy–even though they remained leading performers within their industry throughout the down years. A more meaningful approach would require turnaround “candidates” to have experienced more drastic financial declines than the industry in general. Hambrick and Schecter (1983) and Ramanujam and Grant (1989) share in this call for a tightening of operationalizations of turnaround situations and successful turnaround through the use of industry-based measures.

A stipulation that would tighten requirements for a firm to be considered as having experienced a turnaround would be that its performance during both the downturn and upturn periods must change at a rate greater than the industry average. The inclusion of this stipulation would serve to minimize the chances of studying spurious instances of business turnaround.

Need 3: Test the Presumption that Cause Determines Appropriate Response

Schendel et al. (1976) and Hofer (1980) concluded that operating turnaround strategies were appropriate for firms whose primary problems were of an efficiency or operational nature. They also argued that strategic turnaround responses were appropriate for firms whose primary problems were of a strategic nature. Unfortunately, these relationships have not been tested in subsequent research. The subjectivity employed in the classifications of causal factors and turnaround responses has precluded both generalizing the results and replicating the research designs.

Schendel et al. (1976) used an effectiveness versus efficiency perspective in classifying the cause of the turnaround situation and the turnaround response. They reviewed archival accounts of the turnaround situation to determine which problems were present and whether they were strategic or operating in nature. Hofer (1980) utilized the same perspective when he developed a diagnostic framework for systematically determining whether problems were primarily operating, primarily strategic, or both.

Unfortunately, in terms of the turnaround strategy, neither Schendel et al. (1976) nor Hofer (1980) presented clear definitions of responses that were classified as strategic or those that were classified as operating. Thus, relative degrees of change in products, markets, and other strategy components could be inconsistently interpreted and classified.

Researchers need to undertake studies of sufficient sample size to allow for consideration of the possibilities that a retrenchment response is proper regardless of the cause, that it is improper for certain causes, and that the value of retrenchment (as an operating or strategic response) or of return-to-growth strategies is contingent on factors that include turnaround situation cause and severity.

Need 4: Methodologies to Test for Stages in the Turnaround Process

Case descriptions of firms that have achieved turnaround invariably use the term retrenchment to describe the firm’s activities at one time or another during the turnaround period. However, empirical researchers have described retrenchment activities only as a component of an operating turnaround strategy (Hambrick & Schecter, 1983; Schendel & Patton, 1976; Schendel et al., 1976). These researchers failed to discuss retrenchment as it pertains to the strategic turnaround firm.

Other researchers have used the term retrenchment to describe a stage that all firms go through in achieving turnaround (Bibeault, 1982; Slatter, 1984). Yet, to date, the methodologies employed in empirical studies have not operationalized retrenchment in a way that would permit its observation in firms that switched strategies to achieve turnaround. The most common approach has been to analyze changes within a business firm between two points in time: the worst year financially during the downturn and the year in which its performance improved to a level qualifying it as turned around.

Since most researchers who have described retrenchment agree that it is an initial stage in the overall turnaround process, lasting on average six months to two years (Slatter, 1984), the impact of retrenchment moves in the initial years of the downturn would be indistinguishable by the fourth or fifth year of the turnaround process; the typical time period from trough to peak among turnaround firms (Bibeault, 1982). For example, costs and assets could be reduced initially, but since subsequent asset redeployments might well raise them before actual turnaround was achieved, simple pre- and post measures of changes in cost and asset levels would fail to provide appropriate insights on the intervening strategic activity.

As an alternative, future researchers may wish to consider the use of an intermediate point of observation–such as when the firm has completed its major retrenchment activities–to gain additional understanding of the effect of retrenchment activities on the turnaround process.

It appears reasonable to suggest that retrenchment may be a major component of the strategic and operating (and combination) turnaround strategies described in previous research. This is no stunning revelation; it seems that practitioners have long recognized the importance of retrenchment (Goodman, 1982). What is surprising is that retrenchment has not been empirically investigated under circumstances where it precedes implementation of a new strategy or where it represents the first step in achieving improved long term efficiency of asset utilization. By dichotomizing and separately analyzing the two types of turnaround, previous researchers have tended to downplay the importance of retrenchment, particularly as related to turnarounds that were principally entrepreneurial in focus.

Future Directions for Research

Process Dimensions

The most distinguishing attribute of the Turnaround Process Model is its explicit treatment of the retrenchment response. If retrenchment is an important first step in the turnaround process, as many executives believe (Bibeault, 1982; Goodman, 1982; Slatter, 1984), then it must be investigated as a possibly distinct element within the turnaround process. Only then can researchers study its salient dimensions: degree, focus, and duration.

Degree of retrenchment refers to the net reduction in costs and assets that firms achieve in response to turnaround situations. Conducting empirical analyses of the impact of such reductions on financial performance appears to be a logical starting point for confirming the general utility of retrenchment in promoting turnaround. Subsequent research could provide recommendations concerning the degree of retrenchment necessary in various turnaround situations, and could address important unanswered questions, such as: Does retrenchment facilitate turnaround? Is the degree of retrenchment positively associated with the strength of the recovery? Is the degree to which retrenchment is useful a function of the severity of the turnaround situation?

Focus refers to the target areas of the retrenchment. At the most general level, the distinction could be drawn between cost and asset retrenchment. Does the decision to focus on costs or assets relate to performance more than the degree of reductions in both costs and assets? In other words, should firms pursue cost and asset reductions sequentially or simultaneously? More specifically, in assessing the impact of retrenchment on turnaround performance, should researchers distinguish between cost (advertising, research and development, direct labor, and materials) and asset classifications (receivables, cash, plant and equipment)? Should certain assets be protected from reductions? Should certain expenditures (such as R&D) persist even in turnaround situations?

Duration refers to the longevity of the retrenchment process; the period of time over which the firm persists with its cost and asset reductions. At what point do the diminishing returns from cost reductions make further cuts suboptimal? A related issue concerns the degree of permanence of the firm’s reduced size. Should a firm sustain its reduced size for some minimum time before implementing its long term plans for the recovery phase of the turnaround response–perhaps until critical financial measures reach some threshold level of health? Is duration primarily a function of the situation or of the nature of the recovery response?

External Causes

Learning from the limitations of published empirical findings on business unit turnaround, new studies can be expected to improve on old methodologies and to address issues that have recently emerged. One area that appears to provide excellent research opportunities involves the external causes of decline.

In the present model, the causes of decline are classified as having either internal or external sources. This is a simplistic but attractive approach because it highlights efficiency and effectiveness issues and because it has precedent in prior research. However, it lacks the capacity to systematically describe the range of environmental conditions that impact business unit performance. An improvement might be the inclusion of a population ecology perspective as suggested by the work of Zammuto and Cameron (1985). Their untested conceptualization of ecological niches and organizational domains may help to explain why organizations within a population are differentially impacted by industry declines, thereby aiding our understanding of why firms more or less successfully implement different recovery strategies.

Research Methodology

Precise operational definitions of turnaround situations and turnaround strategies are needed to advance systematic theory-building research, as are the use of industry-anchored performance measures to facilitate multiple industry studies of turnaround. The ability to study multiple industries is an important pursuit since few industries contain sufficient numbers of turnaround firms to allow for generalizable findings. A major limitation of published turnaround research is the lack of large numbers of participants to represent the interrelationships among cause, situation severity, retrenchment, recovery response, and performance. Extending the research into multiple industries will afford researchers the sample size needed to systematically assess the generalizability of turnaround models against the effects of organizational factors such as size, structure, technology (including service versus manufacturing) and diversity. With sufficient numbers of firms, each with varying turnaround situations, it will be possible to observe concentrations of firms representing the entire continuum on each of these dimensions. It will be possible to compare the responses and successes of high external causality firms against those of high internal causality firms. It will be possible to compare the responses and successes of the high situation severity (virtually insolvent) firms against those of the low situation severity firms.


The attributes of successful turnaround strategies are often inferred from the actions taken in high profile successes: quick and forceful decision making, deep cost cutting, divestitures and an emphasis on quality. While interesting, such perceptions are neither universally accurate nor consistently beneficial. Furthermore, they do not provide substantiated prescriptions for managers of firms facing declining financial or competitive performance. The need is for systematic theory building based on carefully designed and skillfully executed empirical research on turnaround situations and responses. Hopefully, the model developed in this article from prior empirical contributions will provide new momentum for advancing productive research on business unit turnaround.


Glossary of Terms

Degree of retrenchment. The relative net reductions in costs and assets achieved by the troubled firm in preparation for its recovery efforts.

Duration. The longevity of the retrenchment process; the period of time over which the firm persists with cost and asset reductions.

Focus of retrenchment. The target areas of retrenchment. Focus options are seen in terms of reductions of costs (advertising, R&D, direct labor, and materials) and assets (receivables, cash, plant and equipment).

Operating turnaround. Efforts of a financially troubled firm to pursue its current strategy more efficiently-therefore, it is also known as an efficiency turnaround. It typically consists of efforts to control costs, more efficiently utilize assets, and improve production processes and their associated managerial and structural changes.

Recovery response. The set of reactions designed to profitably reposition the firm that is experiencing a turnaround situation, i.e., a return-to-growth strategy. In this research, the recovery response is theorized to follow the retrenchment as the second stage in the turnaround process of firms that return to their pre-downturn levels of economic performance.

Retrenchment or retrenchment response. The initial set of reactions by the firm, in recognition of its turnaround situation, designed to increase efficiency by reducing costs and assets relative to the profits generated.

Severity of the turnaround situation. The criticality of the financial downturn in terms of the immediacy of the threat to firm survival.

Strategic turnaround. Efforts of a financially troubled firm to pursue a return-to-growth strategy. In some studies the term entrepreneurial turnaround has been used to denote the same strategic orientation. It typically consists of manipulating strategy components, such as reposturing the firm’s product or service offering, its primary markets, principal technologies, distinctive competencies, and strategic alliances.

Turnaround Performance or Success. Financial or market measures of the relative success of the troubled firm in returning to pre-downturn performance levels.

Turnaround Process. The process by which once-successful firms, that experience severely declining performance for a protracted period of time, overcome their troubles and return to match or exceed their most prosperous periods of pre-downturn performance. The turnaround process is conceived as encompassing two stages of activities: retrenchment and recovery.

Turnaround Situation. The period of time the troubled firm should be engaged in turnaround efforts. This time period has been variously defined by executive perceptions or by financial measures of firm performance.


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