I’m not one to routinely speak in terms of self-fulfilling prophecies. But I can’t ignore the early warning signals emerging from quality TEC (The Executive Committee) speakers about the probability of a downturn in the economy.
One highly-regarded economic forecaster, in particular – Brian Beaulieu of the Institute of Trend Research and chief economist for Vistage (TEC) International – has definitely caught our members’ attention. Up until now, he has called the shots and hit the bull’s eye!
Brian believes that, domestically, we will see a slowdown across many industries this year, followed by a probable significant recession in 2009 and 2010.
Since I became involved with TEC in 1973, I’ve seen five recessions. A recession is a decline in real domestic output for two consecutive quarters. In almost every instance, each one was different than the last, and the industry impact was anything but uniform. I can also report that TEC members fared better than the general economy, not because they were necessarily smarter than the others, but because they prepared themselves well in advance.
This month, I’d like to explain what you can do to get your firm ready for a downturn. I’m going to summarize the wisdom of many CEOs, turnaround experts and business consultants who have all “been there, done that.”
This isn’t meant to be an all-inclusive exercise, but just something to get you thinking in the right direction.
The balance sheet
Now is the time to clean up your balance sheet. If you haven’t done so in a while, get your hands on an RMA report from your commercial lenders. See how you compare within your SIC code(s) to others on key balance sheet metrics such as current ratio, quick ratio, debt-to-equity, ROI and ROE. It’s broken down into quartiles. You don’t want to be in the fourth quartile.
An old TEC friend, Charles Red Scott, who has bought and sold several billions of dollars of businesses in his lifetime, once said that there’s only one king on the balance sheet: cash. During a downturn, cash gets tighter than normal, and every effort must be made to conserve it.
Here are some proven techniques:
1. Shorten receivables and negotiate extended payables.
2. Re-negotiate term credit agreements (move short-term debt into a fixed term).
3. Avoid long-term contracts.
4. Prepay expenses that are likely to accelerate in a downturn.
5. Re-negotiate leases.
6. Use as many temporary employees as possible.
7. Put a check on large capital outlays.
8. Cash in marketable securities that are likely to be hit hard during a downturn.
9. Evaluate current dividend policies.
10. Increase inventory turns and decrease inventory.
Red Scott does one other thing for his “king.” As he says, “grab the checkbook.” Take a look at where the cash is going. If you see excesses, eliminate them. You’d be surprised at how many CEOs admit that they seldom grab this lifeblood tool of the company.
The income statement
Obviously, we have two sectors that come into play: revenue management and cost management.
One technique that I’ve seen TEC members use with a fair degree of success over the years is contingency planning. You start with a fiscal budget of “X” and a defined break even. You then develop another budget for X-10 percent, X-15 percent, X-20 percent, and so on (hopefully that’s as far as you have to go).
Here are five other fairly common revenue management techniques:
1. Increase the attractiveness of terms offered for early payment.
2. If the business is seasonal, consider a “dating program” (pay now, take delivery later).
3. Consider an installment sale for customers whose fiscal year can benefit from it.
4. Un-bundle product and service offerings for customers who can’t afford the whole package.
5. For genuine key accounts, add extra value in the service and fulfillment areas.
6. Agree to a long-term contract that guarantees a flow of business (strategic alliances are a perfect mate for this).
The central issue here is discerning between true discretionary and nondiscretionary costs. A discretionary cost, as one TEC member said, is one that “feels good, but does nothing to support the bottom line.” It should be the first to go. Here are some other questions you need to ask yourself:
1. What fixed costs do you have that, when push comes to shove, are really variable costs in disguise, like an owner’s rent on buildings and equipment that could be reduced with a note payable, for example?
2. At what point can or should officers’ salaries be reduced to align with revenue shortfalls? I’ve mostly seen reductions of 10 percent, up to 20 percent in really bad situations.
3. At what point do planned layoffs kick in, with respect to quantity and duration?
4. Can you identify unprofitable products and services that purportedly absorb overhead but contribute nothing to operating profits and are candidates for contracting out to others or simply eliminating?
5. Can you identify marginal customers whose pressure-pricing tactics and high service demands lead to low gross margin business?
6. Can you put an accurate price tag on your business cost centers to ensure that they are pulling their weight?
There isn’t enough space here for a lengthy description of all the revenue and cost management practices that you can follow before a downturn or recession. So I’ll end with these important suggestions:
• Get your management team thinking about this sooner rather than later.
• Stay upbeat. Good companies not only get through a recession but generally excel from it.
• There is nothing wrong with getting lean and mean whether the times are good or bad.
Until next month, here’s hoping that, downturn or not, you’re ready!