The Best Way to Survive and Thrive in a Recession

Early in 2000, five-year-old Amazon.com sold $672 million in convertible bonds to stabilize its finances. The dot-com bubble burst a month later. A majority of Amazon's e-commerce competitors and many digital start-ups failed in the following years. If the bubble had burst a few weeks earlier, that recession could have destroyed one of the most successful companies.

Economic shocks, financial panics, rapid changes in economic expectations, or a combination of these all can cause recessions -- two consecutive quarters of negative economic growth. Most companies lose revenue and demand during recessions. According to research, damage can be mitigated.

Bain's recent Great Recession analysis confirmed that. Bain's top 10% of companies' earnings increased steadily. McKinsey found similar results.

Preparation mattered. During the Great Recession, stagnant companies did not develop contingency plans or think through other scenarios," Bain says. Stalling companies reacted defensively and reacted negatively.

Flexible, decentralized firms

Should a trading company prepare for and weather a recession? Case studies and Great Recession research answer those questions. They support or oppose conventional wisdom. Debt, decision-making, workforce management, and digital transformation intrigue. Recessions require flexibility and adaptability.

Deleverage Pre-Recession

"Rule one is: Don't crash the company," Harvard Business School professor Rebecca Henderson advises. prevent money shortages. Recessions lower sales and cash flow, requiring careful financial management. Before the dot-com bust, Amazon had more options. 

Amazon Marketplace, its third-party seller platform, launched later that year after absorbing losses from other start-up investments. It entered the kitchen, travel, and apparel markets after the recession (Canada).

Recessions hit high-debt companies the hardest. Business closures, unemployment, and falling house prices in some U.S. counties were examined by Xavier Giroud (MIT Sloan School of Management) and Holger Mueller (NYU Stern School of Business) in 2017. 

Declining housing prices led to a plunge in consumer demand, which directed to business closures and increased unemployment. However, debt-heavy companies were most affected. They grouped companies by pre-recession debt-to-asset ratio. Falling demand closed the most highly leveraged businesses.

Mueller says debt requires more cash to pay interest and principal. Recessions "risk defaulting." To make payments, debt-laden companies must cut costs aggressively, often through layoffs. Deep cuts reduce productivity and investment. Leverage limits companies' opportunistic behavior.

Many factors affect recessionary debt risk. Private equity-owned firms functioned more satisfactorily during the Great Recession than likewise leveraged non-PE-owned companies during the time. 

PE-backed firms performed better because their owners helped them raise capital during downturns. Equity reduces debt. Equity issued before a recession reduces defaults.

Debt-laden companies enter recessions. Mueller found a 38.3% debt-to-assets ratio among firms that increased debt before the Great Recession. 19.5% deleveraged. Research suggests moderate debt is fine. Mueller advises deleveraging if a company expects a recession. From 2007 to 2011, successful firms reduced their leverage more than unsuccessful ones.

Decide

During and after a recession, company performance depends on decision-makers. Centralized firms may benefit from making tough decisions because they have a better understanding of the organization and have incentives aligned with company performance, according to the researchers. In decentralized firms, local information is more valuable, which may make them more resilient to macro shocks.

As part of the World Management Survey of Manufacturers, plant managers were asked how much autonomy they had in terms of investing, introducing new products, making sales and marketing decisions, and hiring employees. Less centralized plant managers had more discretion. Researchers compared U.S. Census survey results to company sales, employment, profits, and other performance measures. They also studied the recession's hardest-hit industries. 

Researchers found that decentralization improved performance for firms in the worst crisis environments. Delegation is especially useful in uncertain times because decentralization's benefits faded as economic conditions improved.

Why has decentralization helped? 

Sadun says the recession caused instability. Because they decentralized decision-making, decentralized firms were more flexible. To meet changing demand, they expanded their product offerings. To handle uncertainty, Sadun advises examining your organization.

Even though restructuring is hard, these findings can help companies prepare for a recession. "Decentralization matches decisions with expertise," says Sadun. In a downturn, companies can hoard decision rights. However, recession-time experimentation requires company-wide decisions. Even without decentralization, companies can improve employee input on key decisions. Recessions change, says Sadun.

Layoffs

Ranjay Gulati and colleagues found that public companies that survived the Great Recession concentrated on operational improvements rather than layoffs.

Layoffs are costly to employees and companies. Companies avoid rehiring when the economy recovers, which lowers morale and productivity.

Reduce labor costs without layoffs. Consider hour cuts, furloughs, and performance pay. Honeywell struggled to recover after the 2000 stock market crash and fired nearly 20% of its workers. In 2008, the Great Recession hit, and Honeywell saved 20,000 jobs by furloughing employees for one to five weeks, depending on local labor regulations. Honeywell had higher sales, net income, and cash flow than in 2000, despite the 2008 recession.

IT investment rises during recessions.

Some governments prefer shorter hours to layoffs. In many countries, including over half of the U.S., part-time workers receive partial unemployment compensation. Short-term work programs benefited 4% of French workers and 1% of firms in 2009. Short-term work programs led to fewer layoffs and helped companies survive the Great Recession more quickly. Researchers found that short-term work helped vulnerable companies retain workers during the recession. 

The recession would have made it more difficult for them to recover or close. According to researchers, five short-term workers saved one job. The French government saved money by not paying unemployment benefits.

Furloughs and short-term work, like layoffs, let companies choose who gets affected. However, across-the-board pay cuts or hiring freezes that ignore productivity can lower morale and deter the best employees. Hiring freezes affect all departments, regardless of candidate quality.

Performance pay reduces labor costs without lowering productivity. Executive and frontline performance pay has long been a source of contention. An important finding was made by Christos Makridis of the White House Council of Economic Advisers and Maury Gittleman of the U.S. Bureau of Labor Statistics. 

The 2004–2014 National Compensation Survey found that U.S. companies use performance pay more during recessions. Performance pay is more likely in tough times. They believe performance pay aligns worker incentives with changing conditions, making companies more flexible.

Tech Funding

Recessions encourage caution. Recession-hit U.S. cities demanded higher-order skills, including computer skills. Northeastern's Alicia Sasser Modestino, Harvard Kennedy School's Daniel Shoag, and Case Western Reserve's Joshua Ballance said high unemployment made employers pickier, which increased demand (at the New England Public Policy Center). Tech skill demand is boosted by the labor market, according to their study.

Hershbein and Kahn found that companies were becoming digital and pickier. Hard-hit US companies invested more in IT, raising IT skill requirements in job postings.

technology investment during a recession? 

Economists believe their opportunity cost is lower. During a strong economy, companies should focus on production rather than technology. When fewer people buy your product, operations don't need to run at full capacity, freeing up the operating budget for IT initiatives without affecting sales. Technology is cheaper in a recession.

Other reasons may be preferred by managers.

Technology simplifies business. McKinsey senior partner Katy George says better analytics can help management understand the business, the recession, and operational improvements.

Digital technology lowers costs. George suggests "self-funding" transformation projects like task automation and data-driven decision-making. Third, IT investments help companies adapt to the recession, uncertainty, and rapid change. She says manufacturing is finally adopting digital and advanced analytics. 

A factory could either be the most frugal or the most agile, but not both. Digitalization creates much more flexibility around changes in products, volumes, and supply chains around the globe.

Analytical tools, digital technologies, and agile business practices may enhance threat detection and response. Recessions widen company performance gaps. Digital tech can. The next recession may make digital transformation gaps unbridgeable.

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