July/August 2009
John S. McCallum is Professor of Finance at the I. H. Asper School of Business, University of Manitoba. His column is a regular feature in Ivey Business Journal.
While this recession may indeed be different, the principles that will enable executives to survive – the principles of sound management – are the same ones that executives applied to ride out the previous recession and others before it.
As this recession persists, executives should brace for a deluge of articles telling them about managing in the new reality. They should take it all with a grain of salt. Realities come and go but the principles of running a good business are timeless.
The same principles apply regardless of wherever you are in the business cycle, which is not to say that the emphasis does not change. A one-liner on investing I have always liked runs the four most dangerous words of advice are “This time is different.” It is as applicable to running a business as investing money.
The principles of running a good business are easily stated in one paragraph: ethics; clear goals; take care of the customer; take care of the employee; product quality and service; innovation; cost control; productivity; sound finance; manage the risk agenda; nimble and flexible; decision-making for the long term; deal with problems; avoid denial; prudence; patience, tone at the top; keep ego out of it; treat everybody the way you want to be treated; beat the competition.
I have watched management thinking careen through flavours of the day like management by objectives, management by exception, decentralization, Theory X, Theory Y, six sigma, total quality management, reengineering, outsourcing and a gem I especially like, management by walking around. But these principles are about it! Would they were as easily executed from day to day as stated!
When the smoke clears, this recession will be ranked as one of the worst since the second war. There is just too little confidence, too much fear, too much downward momentum, too few savings, too much market volatility, too many international imbalances, too much debt, too little credit, too much lost wealth, too much policy uncertainty and too many countries involved for this to be a quick return to business as usual. The principles of running a good business won’t change going forward, but executives should have some things on the front burner that were not there when the better times where rolling.
First, economic growth. When the economy is growing at the healthy rate it has been for most of the last 25 years, you can get away with not paying too much attention to economic growth. That is because a rising economy does raise most business boats; also, it sure hides a lot of management sins and mistakes. Executives should never confuse a rapidly growing economy with their own managerial genius when they assess why their businesses are doing well.
But when economic growth is slow and uncertain, not being on top of where the economy is going can leave a business worse off than need be. Good decisions on the likes of capital expenditures, production, receivable and inventory levels, employee numbers, compensation and acquisitions depend on getting ahead of the economic growth curve. Don’t pay enough attention to economic growth in this kind of environment and you will find you are always playing catch-up. Just thinking in a focused way about future growth will improve your prospects.
Second, less visibility. A side effect of this economic downturn is that it has made business conditions across the board much harder to predict. Big financial and credit market troubles have a long history of reducing visibility and the current downturn is no exception. Though I am tired of the metaphor, how often have you heard policymakers and executives say “We are in uncharted waters?” Executives should get used to making decisions with less visibility on the future than they have been used to having or would like to have. Mitigating strategies like increasing the forecasting effort, more scenario building and reducing risk in other areas should be considered.
Third, tougher finance. Raising money whether equity, debt, institutional credit etc. is going to be tougher for some time with “tougher” translating into some combination of harder to find, more expensive and more onerous conditions. Providers of funds are gun shy for obvious reasons and are not likely to be over it soon. That old adage “Once burned, twice shy” applies to providers of funds in spades; they have certainly been burned. Executives still need funds to grow their businesses; not growing is not a good option for most; executives are going to have to be very creative in how and where they get money.
Fourth, prices. Executives probably do not think about it much but they have been functioning for quite some time in a stable price environment. You cannot beat stable prices! For proof of how important the general price level is to a sound economy, consider that countries like Canada all have central banks specifically dedicated to assuring that prices are stable. Stable prices correlate highly with economic and financial health across countries and time.
Prices are stable right now but executives should not be surprised if inflation picks up; and sooner, not later. Excessively easy money in the form of very low interest rates and very rapid money supply growth has a long history of stoking rising inflation. Opinions on the appropriateness of the policy vary but what is going on now gives new meaning to easy money. The lowest policy interest rates in our history are a conventional policy extreme and do not rule out the implementation of non-conventional policies that would further ease monetary conditions.
Executives should be paying increasing attention to inflation. Product pricing, contracting, financing and investing are a whole different issue in a stable price environment compared to a rising price environment. When inflation took off in the 1970s, a lot of businesses got caught at considerable cost. Today’s executives would benefit from some advice from executives who lived through the 1970s price explosion firsthand.
Fifth, public scrutiny. This recession is hurting many people and not surprisingly, there is a search for scapegoats. It is unfair and simplistic but executives are near the top of many scapegoat lists, especially in the United States. When an economy and financial market get into the kind of trouble we are in, there is always blame enough for all – governments, regulators, central banks, consumers, savers, investors and executives. But this time around executives seem a particular target. Just as in the 1930s, there has been no shortage of articles wondering if capitalism and capitalists will endure as we have known them. And just as in the 1930s, this too shall pass!
In any event, executives should expect their behaviour, and especially their compensation, to be under increasingly vigorous scrutiny. It is always appropriate to behave as if what you will make the front page of the newspaper. This current economic environment makes that even more important.
Finally, the competition. In the jargon of the economist, recession reduces the size of the economic pie that participants in the economy, including businesses, divide up. In a recession, to stay in the same place, let alone grow, a business almost certainly has to take revenues and customers from competitors. An inevitable consequence is heightened competition, not unlike what happens among wildlife when the river starts to dry up.
Executives should be preparing to defend their turf aggressively. They should also be preparing to go after the turf of their competitors aggressively; the best defence is often a good offense. They should not be surprised that things get rough. And the longer this recession, the rougher it will get. As always, the battleground will be price, quality, service and the best people.
Charles Darwin’s “Survival of the Fittest” concept applies to the marketplace in which businesses compete as well as to evolution. For businesses, a recession is the ultimate test of fitness. There will be many casualties in this recession. For executives, the challenge is not only not to be one but to emerge stronger and better positioned.
This is a recession. Executives should position their businesses accordingly. The principles of running a good business endure. Executives should not let all the rhetoric surrounding this recession distract them and throw them off their game.
Reprint: 9B09TD09
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