How should Entrepreneurs and Investors cope with a Second Recession?

Pounds and Pence

Pounds and Pence

In the first recession investors wanted business plans that offered new simplified services or goods that make things work better (ie. increase efficiency – such as self-service on the web for better prices) or that reduce costs (such as better conferencing or collaboration on the web allowing businesses to cut corporate travel).

However, as opinions strengthen that stocks have rebounded too fast and property assets have not fallen far enough, entrepreneurs and investors need to start thinking about how to handle the second recession.

Now, this is not to say that a second recession is guaranteed, simply to say that the risk of a second recession is sufficient for it to be a part of your plan.

And this is where it gets difficult…

Not only are we unsure if there will actually be a recession or whether we’ll simply suffer a long U shaped recovery where we bounce along at zero growth for years…. but we have very little idea of what this period of secondary recession will be like.

We do know that sooner or later the Governmental stimulus for car purchases (scappage bonuses), property prices (artificially low interest rates) and consumer spending (stimulus and reduced vat) are all going to be withdrawn and accompanied by severe public spending cuts (more unemployment) and higher taxes (lower disposable income for consumer spending for those with a job).

Nor are banks lending on speculative ventures, so don’t expect a pick up in business investment and the VC industry is sharply reduced in scope.

So, against this misery, it is worth reminding ourselves that great companies – Oracle and Microsoft for example – emerged during past recessions and no doubt, it will happen again.

However, the scary part of the recession for entrepreneurs and investors is just before you enter – because the only thing you know for sure is that your business landscape and market place will change radically in ways you can not predict.

So, what do you do? Stop?

Stopping is rarely an option for a commitment already made, but there might be an option to delay or mothball. This may be the smart move for investors and entrepreneurs.

Alternatively, if the only option is to continue, then preparing the business before the storm is the critical act.

Imagine a sail ship at sea which knows a gale is on the horizon – what does it do? Batten down the hatches, prepare for the worse and reduce sail.

A sail boat heals (or tilts sideways) less when it has less sail area exposed to the wind. This increases its chances of withstanding the storm.

So, in the case of business what would be the equivalent of reducing sail? Converting fixed costs into variable costs.

A business needs to convert fixed costs into variable costs as this allows the business cost base to be reduced to whatever your future revenues turn out to be without additional restructuring costs which you may not be able to afford in the future or morale problems.

The classic fixed cost of most start up businesses and all service led businesses is a staff employees on normal employment contracts – which increases your liabilities for redundancy on an annual basis and for which your employees will be incentivised to protect their jobs (ie keep to the letter of their contract) rather than take risks searching for new sources of revenue or business. The impact of this structure of employment law is highest in continental Europe, still high in the UK but lower in the US.

A variable cost is a contract or freelance employee – which can be shrunk to 3 day a week working or 2 days a month or asked to take a 3 month holiday. More importantly, this change can be implemented among freelance staff without loss of goodwill in a way that simply can not be achieved with standard employees.

Therefore, a business that wishes greater certainty that it is going to survive and hence, later thrive, is a business that has moved all or nearly all costs onto the variable part of the equation and away from the fixed cost side of the business.

In this environment, the business that will succeed is the one which has the better implementation – NOT the one with the best idea. This is a novel idea for angel investors who are used to looking for the killer idea – and not necessarily killer implementation.

It is easy – when looking at a new business or start up – to be seduced by the quality of the idea. It happens to both entreprenuers and also investors.

So, in a second recession – if that comes to pass – the survivers will not be the ones with the best idea, but with the best implementation. And that means preparing your business or venture for the worse case scenario. And that means shifting your costs from fixed to variable.

Now, if the second recession does not appear – will you be worse off by making this change? Probably not, as the costs of the redundancy paid now will pay back by a reduced national insurance cost and also a greater ability to adapt your workforce to the demands of your business which in turn is responding to the nervousness of your customers.

In previous boom times, when we enjoyed the famous ‘war for talent’, such an approach might have curtailed your ability to grow your business. In a recession with growing unemployment it is likely to have an opposite effect. Not only will it give your business added flexibility but it also gives your staff more flexibility too – and this, in my experience, increases their satisfaction rather than diminishes it.

However, most importantly, staff on a contract or freelance basis have a much more flexible attitude and are willing to go for the new source of revenue or untapped market and are unlikely to fall back on the old tried and tested ideas that no longer work.

So, with an entirely freelance team, some working from home – some based in your office, you’ll have the flexibility to adapt to all storms that hit your business and at the same time, your crew will be happier. And, if you get your contracts right, there is no reason why those freelancers can not act and behave as an integral part of your business. In fact, it is in their interests to get to the heart of your business and make themselves indispensable.

This is the type of business that will succeed, not necessarily the one with the best idea. After all, who said that Microsoft made the best software in the world? No one. They were just better at marketing.

In this second recession – the differentiator between success and failure will come down to implementation rather than ideas.

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