Given the current geopolitical scenario and business uncertainty, a potential recession isn’t off the table. And while recession spells stress for most businesses, small and medium-sized businesses are more susceptible to its ill effects than conglomerates. That’s why planning well in advance for such an eventuality is wiser – and that is exactly what most small businesses fail to grasp.
Planning for a recession doesn’t start when things begin to go south; it has to be done when everything is going well, and your business is raking in revenue and profits. Why so? Only when your revenue is good and profit margins are healthy can you create a financial buffer by building cash reserves and establishing credit lines that can help when the economic downturn comes knocking.
How to Prepare for A Recession
A recession does not happen overnight. Its symptoms start showing in the form of:
- Noticeable decline in demand and sales
- Cash flow struggles and delayed invoice payments
- Shrinking profits
- Supply chain problems, including deterioration in the quality of products and services
- Limited lending and higher cost of borrowing
- Inflated prices and rising costs
Businesses that can pick up on these subtle hints right at the beginning have a fair chance of insulating themselves against major losses when the full-blown recession hits. Waiting for them to show up in your financial statements before taking corrective steps could end up being a case of “too little too late” for your business.
How to Prepare for a Potential Recession
To plan for a potential economic downturn, you must first assess where your business currently stands. Having understood your financial position, you can then draw up a contingency plan using your profit margins, spending patterns, and other vital financial information.
Monitor Profits and Margins: The broader your profit margins, the more flexibility you have to adjust your business to changing economic scenarios. For this, you must analyze and revise your product range and pricing. Focus more on those with higher profit margins, and make a rational decision about any products or services that aren’t showing growth or are too capital-intensive.
Prepare a Map of Your Cost Structure: One of the most common business reactions to a recession is job cuts and cost cuts. While this may look like a money-saver, the actual result is often the opposite: fewer employees mean lower productivity and output, which in turn leads to declining sales. Instead, take the time to analyze business costs and strategically identify opportunities to cut costs without affecting productivity. Some effective cost-cutting strategies are:
- Reducing the use of stationery by going digital
- Shifting to reduced working hours or shifting to a remote working model for certain employees instead of outright job cuts
- Negotiating rates with suppliers and vendors where there is room to do so.
Don’t Stop Spending Where Returns are Positive: If cost-cutting is necessary to save more for a rainy business day, knowing where not to cut corners is equally important. Some expenses may eat up a significant portion of your revenue, but they are vital to maintain operational efficiency, recession or no recession. For instance, using technology to automate routine bookkeeping, accounting, payroll, and inventory processes is an expense that offers more benefits than it costs.
Similarly, businesses should continue marketing campaigns that bring in a positive return on investment (ROI). The logic behind this is that, just like you, your competitors might also cut marketing costs and be forgotten. Meanwhile, your tried-and-tested marketing campaign might give you an edge from the popularity in a seemingly less competitive environment.
Outsourcing: A growing business tends to hire more employees to meet its business requirements. However, the more employees you have, the higher your spending on salaries and employee benefits. Instead, if you were to outsource some of your work, such as bookkeeping or accounting, to professionals, you could save on these expenses without compromising on the quality of work.
Scenario Planning with Actionable Insights: A major reason most businesses fail is that they don’t know what to do when a crisis hits. While you can’t plan for everything, you can study past events and plan for scenarios like the sudden departure of a key executive, internal fraud, data leak, or product quality failure. Just knowing the scenario is not enough. In scenario planning, there must be a trigger, an action, an owner, and a success criterion.
Suppose a 20% revenue decline over three consecutive months due to weak demand triggers a Level 2 crisis; a task force of senior executives from select teams will take charge. They will make some difficult decisions, such as cutting prices, negotiating with suppliers, reducing inventory, and conducting quality checks, depending on your business needs. The actions will need measurable outcomes, such as slowing revenue decline to 5%, stabilizing the profit margin at 7%, and achieving an inventory turnover of 21 days, with these targets derived from analysis of past financial statements. An accountant can help crunch numbers and monitor performance metrics in real time. They can also conduct an audit to identify leaks.
Decentralizing Emergency Leadership: As we talked in scenario planning, the key is to hand over certain powers to senior executives in an emergency so they can act immediately without the CEO’s approval. This requires planning the organizational structure for Code Red and Code Blue, depending on the severity of the situation. The power and responsibility for the outcome will rest with senior executives.
Securing Credit Lines: The early signs of economic troubles are visible in the lending market. Credit begins to tighten. Once the recession hits, the credit lines currently open will no longer be available. Before the credit situation worsens, businesses should arrange for credit availability by:
- Repaying existing credit lines so you have more borrowing capacity
- Increasing credit line limits
- Evaluating refinancing of variable-rate debt to lock in a fixed interest rate
Remember, a loan is easier to get when you don’t need it. While your business still has healthy cash flow and good profits, securing additional cash flow options from diverse lenders could be a preventive measure. If you need cash, it will be readily available. If you don’t need it, having an option puts you in a better financial position.
Investing in Future Growth: Until now, we have only discussed the defensive strategy for protecting your business in a recession. But the other part of the plan is going on the offensive and using the overall weak business environment to secure long-term deals on favourable terms and acquire assets at compressed valuations, poaching the right talent when layoffs are everywhere. When the recession ends and the recovery begins, your business will be prepared to grow at double the speed with reduced competition and rising demand.
Contact Glenn Graydon Wright LLP in Oakville to Help You with Recession Planning
Companies that fear recession perish, and those who embrace it flourish. Every challenge brings opportunities. A professional accountant and business consultant can help you prepare for challenges and look for opportunities. To learn more about how Glenn Graydon Wright LLP can provide you with the best accounting and business consulting services, contact us today at 905-845-6633, or connect with us online to schedule your initial consultation.