1. Management Challenges During Growth and Expansion The Alliance September 16, 2005 John C. Aplin CID Equity Partners

2. Growth in Organizations can create four major management challenges  Shift in the basic culture and foundation of the company  Loss of control in critical areas Quality Service and delivery Cash management  “Profitless growth” and financial crises  Strategic drift and loss of company focus

3. Creative and Maintenance Transitions

4. Organizational Cultures Entrepreneurial (Creative)  Externally Oriented  Line – Dominated  Irrational/Emotional  Intuitive  Thrives on Change  Ill-Structured  “Action” is Philosophy  Leadership is Norm Administrative (Maintenance)  Internally Oriented  Staff – Dominated  Rational/Logical  Analytical  Threatened by Change  Bureaucratic  “Evaluate” is Philosophy  Management is Norm

5. Addressing the challenges of cultural change  Restructure and reconstitute the management team  Invest in information systems and improve operational and financial control systems  Increase leader communications and presence  Understand priorities, plans and tactics and insure clarity throughout the company – maintain “focus”  Growth hides problems – continual critical evaluation and assessment of performance and operations

6. Loss of control becomes problematic  Managers do not have information about “key result” variables on a timely basis  Activity level overwhelms existing systems’ capabilities  “Must do” priorities force out “Should do” priorities  Coordination efforts deteriorate and integration problems arise  Mission, priorities and plans quickly become obsolete and “action” dominates “planning”

7. Addressing the control challenge  Fundamentally an information issue –review, evaluate and invest in IT systems  Consciously spend more time in planning, coordination, and communication  Establish easily tracked “key result” metrics and a financial dashboard to constantly monitor potential problem areas  Stay on top of everything to prevent a catastrophic control problem – there are no “little” problems

8. “Profitless Growth” Trap Revenue $ 5 million $10 million $15 million $20 million $25 million $30 million $40 million Profit $ 500,000 $1,000,000 $ 500,000 $0 $ 500,000 loss “Work Out” Group

9. Constraints on a Company’s Growth  A company’s growth rate is generally perceived to be how fast it can increase its sales  A company’s financial dynamics, such as profit margin and asset ratios, determine its “sustainable” financial growth rate  The two must be in reasonable balance or a company becomes financially unstable

10. Sustainable Financial Growth Rate SFGR =the rate of growth a company can finance without excessive borrowing or raising new equity

11. Implications of SFGR for Growth Companies  If actual sales growth>>SFGR then eventually financial solvency is threatened  When SFGR is exceeded, owners must: Personally invest more money in the business Sell new equity to outside investors Continue bank borrowing (to a point) Reduce dividends and owner compensation Liquidate the company Sell to or merge with another corporation

12. Longer-Term Implications for Strategy  Watch for competitors and companies who don’t understand SFGR – acquisition candidates  Explore all sources of capital – develop options Banks Mezzanine groups Private equity groups  Develop and maintain “balanced” financial growth strategy to ensure stability

13. Strategic “Drift” and Growth  “Drift” occurs when a company loses focus on its core business purpose and unknowingly pursues actions or objectives because the opportunity arises and the “excitement” of growth and greater success gains momentum Symptoms: Aggressively seeking risky customers Excessive customer concentration Pursuit of opportunistic acquisitions Ill-conceived hiring plans Failure to conduct regular strategic planning sessions

14. Avoiding strategic drift  Commitment and dedication to strategic planning and effective communication of “game plan” to organization  Critical analysis of all significant decisions and actions – “bullet proofing” the decision-making process  Utilize an effective Board of Directors with adequate outside members to insure objectivity and senior level attention on the basic company strategy and mission

15. Summary  Managing a rapidly growing company can be an extremely challenging endeavor  Leadership and management becomes critical during periods of turbulence and rapid growth  Prior financial and organizational success is no guarantee of similar success in periods of rapid growth and change  Growth and expansion is an exciting organizational dynamic and needs to be understood and managed effectively to assure financial and company success

16. John C. Aplin Managing Partner (johna@cidequity.com) CID Equity Partners One American Square Suite 2850 Indianapolis, IN 46282 317-269-2350

17. “The Sustainable Financial Growth Rate” Information to accompany The Alliance presentation on September 16, 2005 John C. Aplin CID Equity Partners

18. Exhibit 1a: SFGR Model SFGR Model: The rate of growth a company can finance without excessive borrowing or issuing new stock P = profit margin (%) retained earnings (%) R = retention rate = net income sales A = asset turnover ratio = assets (interest) T = ______assets__________ (interest) beginning of period equity g* = PRAT

19. Exhibit 1b: SFGR Principles The sustainable growth rate – what it means:  g* is the only rate of sales consistent with stable values of the four ratios  If a company increases sales at any rate other than g*, one or more of the ratios must change  i.e. operations must improve and/or financial policies must be altered – “it takes money to make money”

20. Exhibit 1c: SFGR Example Analog Devices, Inc. 1992 1993 1994 1995 Required ratios: Profit margin, P (%) 2.6 6.7 9.6 12.7 Retention ratio, R (%) 100 100 100 100 Asset turnover, A (times) 1 1 0.9 0.9 Financial leverage, T (times) 1.59 1.81 1.89 1.92 Analog Devices’ sustainable growth rate, g(%) 4.1% 12.1% 16.3% 21.9% Analog Devices’ actual growth rate, g (%) 5.5% 17.5% 16.1% 21.7% _________What if?__________ Asset Financial Both Occur turnover leverage 1.1 times 2.2 times_________ Sustainable growth rate in 1995 (%) 26.8% 25.1% 30.7%