Posted by Paul F. Lynch
The following is adapted from Jonathan Pond’s book Safe Money in Tough Times: Everything You Need to Know to Survive the Financial Crisis.
Small business owners face a double whammy during a recession and its recovery: They have to keep both their business and their personal finances afloat. A small business owner often risk their personal resources in an attempt to keep their businesses going. But if that course of action fails, they could end up in serious financial trouble.
Many business owners don’t see their personal financial life as separate from their business, even in the best of circumstances. When push comes to shove, they’re willing to use their personal investments and retirement accounts, borrow against their homes, and cosign additional business loans to keep the business going. The risk of doing this is obvious, but small business owners are inherently risk takers.
If you own a business or are a self-employed professional, these strategies may help you cope with the financial problems that plague many businesses and professions during an economic slowdown or its aftermath.
Tips for Surviving a Slump
- Be prepared to take action. One key to dealing effectively with economic uncertainty as a business owner is to anticipate problems and take action before it’s too late. Be ready to respond quickly at the first sign of an economic slowdown or recession by examining its effects on your business and outlining actions that should be taken under various possible economic scenarios.
- Recognize early warning signs. Don’t wait for sales to slow down before taking action. Identify key indicators that will point to deteriorating or improving business conditions in your industry or profession so you can take action as soon as possible.
Critical indicators vary from business to business, but the most obvious early warning sign is slowing sales. If your customers or clients are hurting, it will almost certainly reduce the amount of business they’ll do with you. Sudden changes in assets, such as increasing accounts receivable or inventories—or a decline in turnover rates—may also indicate impending problems.
On the liability side, rising trade payables or short-term debt often signals trouble ahead. Using debt—even short-term borrowings—to support day-to-day operations of the business is usually a bad sign unless the business is seasonal. The inability to pass along increased costs to your customers suggests that demand is weakening—often an outcome of a recession or stronger competition. Either way, your company is likely to suffer a subsequent decline in sales. Keep in mind that your larger competitors have far more flexibility in reducing prices than you do.
- Don’t postpone taking corrective action. If you have determined that there may be problems ahead for your business, take action immediately. There are a number of things you can do to help weather a slowdown:
- Reducing inventory (if your business has one) is often one of the best ways to cope with slowing business conditions. Not only does a lower inventory tie up less cash, but it also can free up business credit lines, which can be used for other purposes, if necessary.
- Improving the management of accounts receivable is also an important means of keeping a business afloat. During a slowdown, your receivables will slow just like everyone else’s, so you have to step up your collection efforts.
- On the other side of the balance sheet, avoid paying your accounts payable early, but don’t stretch out payables too long either. While delaying bill payments can help short-term cash flow, it will only aggravate the situation later on and could damage credit relationships. If extended payment terms can be arranged with some suppliers that may be anxious to prop up their own sales, take advantage of them.
- Loans should, of course, be kept to a minimum during a slowdown. Highly leveraged companies, whether they are multibillion-dollar corporations (case in point: the automobile manufacturers) or small businesses, have faltered, if not failed, during the recent recession. If you get to the point where you are having difficulty meeting your loan obligations, much of my advice concerning consumer credit problems also applies to business indebtedness. Perhaps most important is keeping the bank informed of your problems and your plans to alleviate them.
- There are probably a number of areas, particularly overhead, where you can reduce expenses, if you haven’t already, without adversely affecting your ability to do business. Approach layoffs with caution unless you expect a lengthy slowdown. Layoffs by small businesses often impair the quality of the services or products those businesses provide and have an adverse effect on the morale of retained employees. But if layoffs are necessary for the survival of the business, you have no choice.
- If you are contemplating making any major purchases for the business, consider whether it makes more sense to postpone them until you get a handle on how economic uncertainty ultimately will affect your business. On the other hand, you may find that, as larger companies curtail some of their products or services, you have opportunities to make inroads into other markets. This could justify some additional investment.
- No matter how bad the situation gets, try to avoid becoming preoccupied with the survival of your business, lest it take crucial time away from the management of day-to-day operations. Build your employees into a team that’s dedicated to fighting and conquering the adverse effects of the slowdown. You’ll probably be pleasantly surprised by the extra effort they are willing to give.
Separating Business Finances from Personal Finances
The biggest risk that you as a small business owner must confront in the face of deteriorating business conditions is not that you will lose the business; rather, it is that in losing the business, you also will wipe out your personal resources.
If the prospects for your business are or become very bleak, you may have to make a very difficult decision—whether you should pour more personal resources into the business and/or cosign more loans to the business, assuming that you can get the loans at all, or whether you should cut your losses now. It’s extremely difficult for most business owners to be objective and realistic about these matters. Weigh carefully any action that could jeopardize your personal resources. It may not be worth it in the long run.
If you go through a business failure, remember that all is not lost. If you created a business once before, the odds are heavily in your favor that you can do it again. If you’ve had it with business ownership, take heart from the fact that many larger companies find former business owners to be superb employees, because these people are highly motivated, think innovatively, and address problems effectively.
I have a good friend who was victimized by an earlier recession. He had spent a decade building up a large service business that collapsed in a matter of months. It wiped out all of his personal assets, including his home. Fortunately, he was blessed with a very supportive wife and children. After working for a company for about five years and doing very well, he had the itch to strike out on his own again. He is now in the same line of business, but his organization is much leaner than his former, failed organization.
I recently asked him how frightened he was of another economic collapse. He said that it didn’t bother him a bit. Although his business has slowed down, he now knows what it takes to keep it going in slow times, because, as he says, “I learned from all the mistakes I made a decade ago.” Moreover, he now owns his home free and clear and has enough money in the bank to support the business for several years. His story is not at all unusual.
Is This a Good Time to Start a Business?
Economic downturns often get people thinking about starting their own businesses. When millions of people lose their jobs, the idea of working for yourself seems particularly attractive. Starting a business when conditions are weak may be effective. Because business is slow, you’ll have more time to devote to building a business from scratch or buying a business.
But if you decide to strike out on your own, be sure your expectations are realistic. Don’t expect to open a store, put a business online, hang out a shingle, and have people immediately knock down the doors, particularly in a slow economy. Statistics have shown that it takes an average of seven years for a new business to become profitable.
The most important first step is to find a business you’d love to run in a field where there is or probably soon will be strong demand and where you already have career experience. You also need the money or the financial backing of partners to start and grow the business until it becomes profitable. This is not meant to discourage you from self-employment, but you have to approach it realistically.
If you are a business owner, life insurance can play an important role in protecting your family and your business. To discuss your options, call SBLI at 1-800-438-7254.