Make the Most Out of a Recessive Economy
Forty-year record-high inflation, slowing growth and the Federal Reserve’s recent interest rate hikes are driving up the likelihood of recession. Especially under the influence of excessive news coverage, many business owners — understandably — feel fear.
It’s important to remember that recession is a natural part of the business cycle. In fact, a recession has occurred approximately every three to four years since 1857, according to Kiplinger. Although not all bear markets are recessionary, it’s interesting to note that, similarly, bear markets like that which we are currently experiencing have occurred on average every 56 months (four years and eight months) since 1932, according to S&P Dow Jones Indices.
In addition, recessions are typically short term in nature. Only one recessionary period in the United States has lasted longer than two years: the Great Depression. Recessions have been as short as two months (2020) and generally last less than one year. Since World War II, recessions have averaged approximately 10 months in duration, according to data from the National Bureau of Economic Research.
Economic expansions, on the other hand, are much longer in duration than recessions. The average expansion since World War II has lasted more than four years. So, consistently, declines in overall economic activity have tended to look more like “bumps in the road” before economic growth can resume.
Inflation is also an ongoing part of the business cycle. Since the onset of the pandemic in early 2020, the global economy shifted from too little inflation to today’s elevated levels. A drastic reallocation of demand, supply chain issues and labor challenges — directly or indirectly caused by the pandemic — all contributed to an inflationary impulse.
Then, ripple effects of that impulse took form. The second phase included wage growth due to employees’ newfound negotiating power, and general elevated inflation resulting from companies’ pricing power.
Today, naturally slowed growth weighs on inflation, while both governments and central banks are wrestling to counteract building pressure and avoid unnecessary tightening.
Consequently, many business owners are experiencing an increased borrowing need in order to combat inflation and abate supply chain challenges. Some businesses are seeking to increase finance lines to meet their working capital needs, and striving to continue business as usual to the extent possible. This cycle has run its course time and time again.
While geopolitical shocks hurt the market, they — like recession — historically pass rather quickly. The average time to the market bottom after jolting global events, which also include the terrorist attacks on the U.S. in 2001 and the North Korean missile crisis in 2017, is 21 days, and 45 days to a full recovery, according to Kiplinger.
Rather than raise alarm, business owners can brace their business with help from a strong management team, and even identify opportunities to strengthen and grow out of a unique — and temporary — situation.
Can there be any positive outcome from a recession?
A recession could help balance out inflation.
The economic cycle naturally comprises periods of expansion and periods of slowed growth which sometimes mean recession. Economic imbalances can be remedied by recession, in turn clearing the way for growth once again.
As of June 10, the latest inflation data reports an overall inflation rate of 8.6%. Main factors contributing to a Consumer Price Index at its highest point since 1981 include gas prices (+49%), airfare (+32%), used cars (16%) and shelter (6%). A market in recession would correct this economic imbalance, bring prices down and allow for the natural ebb and flow of the economy to carry on.
For small and midsize business owners, leveling out inflation will ease many of the issues that have made recent years challenging. In addition to lowering the cost of products and raw materials, supply delays and cancellations will also be less widespread. On the labor side, the cost of finding, hiring and retaining talent should drop a bit closer to previous levels, although arguably forever changed by workers’ new preferences.
A recession offers growth opportunities.
In a recession, companies in vulnerable management or financial situations risk bankruptcy. Such situations can move the greater economy forward. Say an airline is headed for bankruptcy. Its airplanes and people, its systems and infrastructure, won’t disappear. The airplanes will be sold to new companies and the people will be rehired to better management or to other industries that can use their labor more productively.
How should business owners approach a possible recession?
An impending recession is an opportunity to reevaluate your short-term business goals and seek out new opportunities. Although unemployment and slower wage growth are typically seen in a recession, focus on factors that are within your control:
1. Support your employees.
Your employees read and hear the same news you do, and the possibility of recession can be worrisome. Listen to your employees’ concerns and put their mental health first. If possible, offer greater flexibility, development and training opportunities, and other benefits that allow your team to perform at its best.
2. Evaluate your cash management strategies.
Cash management is the process of collecting and managing cash, and it’s critical to your company’s overall financial health. When you have a firm understanding of your cash conversion cycle, profit margin and key performance ratios, you can eliminate profit busters and maximize your cash flow.
3. Explore financing options before you need them.
In addition to traditional loans, there are several more financing options available for small and midsize businesses. Many offer favorable interest rates and convenient, customizable terms, such as asset-based loans or U.S. Small Business Administration (SBA) loans. Work with your banker to explore your options and ensure your financial documents are in order so you will be ready to apply for the right loan if the need arises.
4. Conduct an audit of the health of your business.
Partner with your banker and accountant to analyze and understand the financial position of your business. Not only is it a good practice to periodically review where you stand against your short- and long-term goals, but having this information on hand will allow you to make swift, informed decisions no matter where a possible recession steers you.
Another way to keep your finger on the pulse of your business is to build or adopt a financial performance dashboard. A dashboard with real-time metrics and key ratios can help you visualize and understand financial data, and guide you when making performance and business decisions.
Strong businesses have strong management and an advisory team that understands the business owner’s goals. Your advisors take your goals and capabilities into account and can help you adapt your business and uncover opportunities that may otherwise be drowned out by noise or panic. A trusted financial advisor, banker, lawyer and accountant can help you determine what is possible and take advantage of a unique economic moment in time.