Entrepreneurs tend to be optimistic by nature. As a new year begins there is ample ground for many entrepreneurs to feel good. The latest signs of an improving economy were strong enough to help persuade the Federal Reserve to raise interest rates recently--for the first time in nearly a decade. A boom in valuation of technology-based companies, private as well as public, is driving expansive optimism in that sector.
But what if things in 2016 don’t go the way we want them to? Extreme pessimists are usually wrong--but so are extreme optimists. A downturn, caused by the natural ebb of the economy or by a shock such as a geopolitical crisis, is always a possibility, bringing back conditions we remember all too well from the years after 2008: declining revenues and margins, excess capacity, anxious employees and restless investors. Even if a recession doesn’t come to pass, your company might have its own downturn this year, which could be caused by a new competitor or new substitutes for your products and services or loss of a key customer or employee.
Why not start 2016 with a resolution to do some contingency planning for the possibility of a downturn later this year?
1. Manage Profitability
Most companies have a relatively narrow margin for error. A 10% decline in revenue could wipe out the entire bottom line that you count on. Having a plan to produce marginal, short-term profit despite a drop in revenues can make all the difference.
Consider doing the following:
- Develop forecasts based on optimistic, realistic and worst-case revenue scenarios.
- Formulate contingency plans. Make sure your top managers are on-board with the plans, and are ready to act quickly if revenues decline.
- Agree with your management team on early warning signals, such as a shrinking back log, a downturn in customer-market indices, or a worsening sales pipeline.
- Be willing to adjust discretionary spending at more frequent intervals; for example, quarterly, or even on a rolling basis.
- Be ready to keep bankers and investors appropriately informed in case of a downturn and to communicate the actions you’re ready to take to limit the damage.
2. Identify and maintain your strengths-- and your best customers
Identify the strengths that have enabled your success to date, and those that will be important in the future. Which capabilities and skills are most critical? What distinguishes your ability to serve customers effectively?Identify your highest-margin customers, and understand what you are doing right for them. Develop a game plan, in the event of a downturn, to protect and build on the strengths that have allowed you to be indispensable to them. In the event of a dip in business, rather than cutting costs across the board, be ready to shift resources to retain these high-margin customers.
Continue to be creative in how you can add value for your customers without increasing your costs. Example: a professional services firm adds regular briefings to client executives to monetize its intellectual capital.
3, Be ready to decide what you can stop doing
Companies that create enduring value typically excel at discontinuing what no longer adds value. Be ready to make changes in cost structure that will least damage your strengths and will hone your value proposition down to what customers really value.
Comb through your cost structure to create a contingency plan for what you would cut. Identify what’s inefficient; what’s nice to have but dispensable; what’s there because of history, inertia or wishful thinking; what may have worked in the past but doesn’t anymore; what isn’t creating value as it used to.
Realize the challenges you would face in cutting costs. Most organizations aren’t adept at taking costs out quickly as revenues decline, and margins suffer. Even your most hard-headed managers will try to protect their own people first. As your company has grown, your operations have probably become more complex. Be ready to take a knife to any complexity that isn’t compliance-required or value-adding.
4. Manage liquidity as hard as profitability
A downturn might force you to deal not only with negative growth but also with liquidity constraints. Trying to maintain liquidity on a smaller revenue base can be crippling.
You would need a plan to turn over every balance sheet dollar faster to contribute to working capital. You’ll need plans to:
- Maximize cash flow by narrowing the timing between sales and outlays for costs you incur in advance, such as inventories.
- Collect receivables from customers faster.
- Take advantage of increased supplier willingness to share risk and to provide favorable terms.
5. Be ready to shrink to survive
The list of things a CEO needs to do to plan to survive a downturn is long and can seem daunting. You would need to avoid disassembling what has made you successful while accepting the necessity of shrinking it for the near-term. Managing through the crisis may require some skills that have been rusting in your managerial tool case.
In the event of a downturn, you’ll no longer be insulated by growth. Disciplined decision making will be essential. You’ll need to lead with the right proportions of cost-conscious frugality and bold innovation.
Hopefully 2016 will be a banner year for your company. But just in case it isn’t, invest some time now to plan how you will survive a downturn. Happy New Year.
About the Author
Mark Rosenman, Newport's Chief Knowledge Officer, has deep experience developing processes, systems and content to create value from intellectual capital. Contact or learn more about Mark here.
