As we have now put a bow on 2022 and have turned our attention to 2023, we suspect that the dreaded “R word” is on the mind of many of our readers as they contemplate the myriad challenges and obstacles their businesses will face in 2023.
While we are not professional economists and have no illusions of being so, those that have chosen to make their living by predicting the timing of fluctuations in the business cycle are in near unanimous agreement that the U.S. economy will enter a recession in 2023. Recent readings of The Conference Board Leading Economic Index® (LEI) for the United States suggest as much: “Indeed, given the LEI’s recent performance, The Conference Board projects that economic weakness will intensify and spread more broadly throughout the U.S. economy over the coming months with a recession to begin around the end of 2022 or early 2023.”
Now is the time to think critically about how your business is positioned for a potential economic slowdown. This post offers a few practical steps business owners, directors, and their advisors can take to ensure their business continues to thrive.
One of our clients told us a long time ago that making good decisions is a lot easier when you don’t need the money. There’s a lot of wisdom in that maxim, given that sustained revenue and profit growth can mask inefficiencies in the day-to-day operations of your business.
When business is going well, it’s often easy to put off hard decisions regarding expense management. When you don’t feel like you “need” the money is typically the best time to make decisions in support of the long-term sustainability of the business. If you wait until you feel the pressure in the heat of a downturn, making appropriate expense management decisions will be much more painful.
Balance Sheet Strength
Managing the balance sheet is a constant trade-off between efficiency and flexibility. We often write about the perils of “lazy” capital in businesses in our Family Business Director blog, yet some financial flexibility can help sustain businesses during economic slowdowns. Balance sheets can be fortified in advance of a recession by shedding underperforming or non-operating assets and using all or some of the proceeds to reduce outstanding indebtedness and build up a war chest of cash to sustain operations in the event of a downturn.
Bankers prefer to lend money to those who don’t need it, so now could still be an optimal time to expand borrowing limits on lines of credit or re-negotiate loan covenants.
Taking the long view, an economic disruption may present opportunities for patient businesses to take advantage of industry dislocations by increasing market share or consolidating industry capacity. You don’t have to outrun the bear as long as you can outrun the other hunters.
Now is the time for management teams and boards to carefully assess competitive and industry dynamics to identify what opportunities might arise for the business to solidify its long-run competitive position during a recession.
The cyclicality of revenue refers to the sensitivity of a business’s revenue stream to overall economic growth. Companies that sell non-discretionary goods or services exhibit less revenue sensitivity since customers need such products and services regardless of the economic environment. Demand for energy, food, personal care products, healthcare, and similarly situated industries can soften during a recession as consumers trim budgets, but the sensitivity is muted relative to that for discretionary goods and services (automobiles, home renovations, leisure goods, etc.) that consumers can more readily forego or defer when belts need to be tightened.
Examining the cyclicality of your business’ revenue and employing strategies to manage this cyclicality is one practical step owners and directors can take to limit the company’s revenue exposure in the event of an economic slowdown.
We sincerely hope the next recession doesn’t start for a long time. You need to be prepared whenever it does start, whether in 2023 or later. Most businesses are not “recession-proof,” but now is the time to evaluate the prudent steps needed to prepare for the next downturn.
Our valuation professionals have lived and worked through several recessions (and have the scars to prove it). Give us a call to discuss positioning your business for the next one today.