Are Companies Too Optimistic?

 

There have been numerous articles written over the past year about how great things are going for companies and the economy.

Politicians are touting economic growth over the past couple of years that has been at historical levels. Job growth has averaged over 200,000 per month for the past year, average hour earnings grew 3.2% in April and inflation and interest rates continue to be low.

A recent Bank of America survey of more than 1500 small businesses, the ones most vulnerable to economic downturn, revealed that small business owners’ outlook for their business remains strong.

The majority of the participants are planning to expand their business, take on more loans and are hiring more people.

 

THE QUESTION IS …

So, the question is, “Are Companies Too Optimistic?”.  There are many indicators that would suggest that the current high level of optimism is not warranted.

In fact, those indicators reflect that business owners are not heeding some of the warning signs that good times may not last as long as they expect.

For example, in the same Bank of America survey, business owners indicate their confidence in the national and local economy weakened over the past six months.

Top economic concerns have risen for health care costs, interest rates, stock market, consumer spending and the political environment.

 

A PERPLEXING DICHOTOMY !

On one hand, small business owners are acting like things are great and moving forward with expansion plans, and on the other hand they are concerned about the economy for a variety of reasons.

This dichotomy is perplexing given that a number of companies are doing nothing to prepare for a potential downturn. At least a third of the companies surveyed have no plan to deal with a catastrophic event or an economic downturn.

A number of economic indicators suggest that small business concerns about the economy are well founded. For example, a recent article in WWD, featured the headline, “Today’s Consumer: Cash Strapped, Loaded with Debt and Living Beyond Their Means”!

The article acknowledges that recent economic data remains strong, however several top economists said, “they don’t expect the engine to run at this pace for the rest of the year”.

 

CONSUMER IS 2/3 OF USA ECONOMY …

This premise is supported by the fact that credit card debt continues to increase, and total household debt stands at $13.5 trillion, an all-time high.

Given that consumers represent two-thirds of the U.S. economy and are a key driver of the current expansion, this data presents a significant indicator that the “good times” may end sooner than small business owners think.

Another significant threat to small businesses is the impact of tariffs.

A recent CNBC article states, “Wall Street is beginning to believe the trade war will last a lot longer and hit the economy a lot harder than it did just a few weeks ago and if the trade war persists, strategists see an impact on second half corporate profits and a bigger hit on the global economy”.

 

THE IMPACT OF TARIFFS …

In our practice, we have certainly seen the impact of tariffs on companies that are dependent on import or raw materials from tariff impacted countries.

They have been forced to attempt to pass along the increases to their consumers and in some cases had to absorb the extra costs which has negatively impact their cash flow.

The issue of preparing for a downturn in the economy has been a consistent theme of Revitalization Partners’ blogs over the past couple of years.

Having said that, we sometime hear from prospective clients, that they believe things will continue to get better and an improving economy will help them resolve their current business problems.

 

OUR ADVICE IS …

Our advice is, that in spite of their “Optimism”, companies need to proactively plan for managing their downside risk and take the necessary steps to mitigate the downturn that is eventually going to happen.

And, if a business owner is not sure how to go about putting together an actionable plan, they should consider asking for outside help to make sure they are taking the proper steps to ensure their company can weather the coming storm.

 

 

Revitalization Partners is a Northwest business advisory and restructuring management firm with a demonstrated track record of achieving the best possible outcomes for our clients. And now, we’ve written a book to help our readers understand the issues facing their businesses. You can find this compilation of our business thoughts at: https://revitalizationpartners.com/we-could-write-a-book/ or on Amazon.

We specialize in improving the operational and financial results of companies and providing hands-on expertise in virtually every circumstance, with a focus on small and mid-market organizations.

Whether your requirement is Interim Management, a Business Assessment, Revitalization and Reengineering or Receivership/Bankruptcy Support, we focus on giving you the best resolution in the fastest time with the highest possible return.

Mid Market Predicts Economic Downturn

 
 

Recently, KeyBank surveyed 400 middle market business owners and executives on their expectations surrounding a potential economic downturn and the implications for their businesses.

Nearly 70% of these companies are expecting an economic downturn in the US, of those, approximately 30% expect the downturn to take place in 2019 while approximately 40% expect the downturn in 2020.

Not surprisingly, most middle market companies expect the next economic downturn to have a negative impact on their business.  About 20% do not expect any impact while another 20% think a downturn could be a positive impact.

 

ALREADY TAKING STEPS …

Given that most middle market companies expect a downturn to hit soon, two-thirds are already taking steps to safeguard against it.

Most commonly, businesses are looking to reduce expenses and improve their operational efficiencies and productivity in an effort to counteract revenue losses. They are also looking to identify new markets and products to offset decreased revenue from their current product and market mix.

Increased operational efficiencies are a major focus perhaps because of the perceived threat of the economic downturn, but they will help regardless of what happens with the economy.

 

INCREASE LIQUIDITY & LOWER COSTS …

Beyond efforts to enhance operational efficiencies and identify new markets and products, over a third of mid-market companies are increasing liquidity, as well as searching for lower cost suppliers of raw materials.

Companies with higher revenue are most likely to be taking action now, both focusing on reducing costs of sales through both lower cost suppliers and reductions in headcount.

Interestingly, approximately 80%of mid-market business owners and executives remain optimistic about the outlook for their own company over the next 12 months. 

Considering that 70% of companies are expecting an economic downturn by 2020, this optimism may speak to the actions they have taken to safeguard against a downturn.

 

THE KEY QUESTION IS ALWAYS …

At the individual company level, the question is always: Were the right steps have been taken to protect the company?

Revitalization Partners recently was approached by a company that was having difficulty with their banking relationship. The company’s strategy for growing through the downturn was to grow revenue by acquiring similar companies using debt and use the increased revenue and profitability to be able to service the commitments on these loans.

As revenue slowed due to seasonality and in 2019, the weather, this company was unable to meet its loan commitments.

The company approached RP to assist them in staving off the bank while they completed additional acquisitions to improve their ability to service the debt.

In addition to the millions owed the bank, the bank also had a block of mezzanine debt and additional unsecured debt to various members of the company.

Given that they had violated bank covenants multiple times and the bank had communicated that they would not allow this to continue, the company did not have sufficient time to refinance its debt.  As a result, we were unable to assist them.

 

THE MOST IMPORTANT ACTIVITY …

While the importance of developing a strategic and tactical plan for a potential downturn cannot be overstated, one of the most important of these activities are that your company is aligned with the right bank for your organization.

All banks are not the same and the bank that is happy to sell you money and services when things are going well for your company, may not be the right bank for the time the downturn occurs.

We recently were involved with a client that had developed a strategy to weather the downturn by the acquisition of another company that provided very similar goods and services, but to a different market segment that expanded the combined company’s capability.

 

WHEN ARRANGING THE CREDIT LINE …

When arranging the acquiring company’s line of credit, the company discussed the fact that they had a plan for this strategic acquisition and the bank assured them that the necessary funds would be available. 

At the time of the acquisition, a few months later, the company was informed that the acquisition loan would not be available due to a “change of policy” by the bank.  

Fortunately, the company was sufficiently well capitalized to be able to complete the transaction.

 

DEAL WITH THE RIGHT PERSON …

The above scenarios point out that not all banks are truly “business banks” and underscores the importance of talking about the execution of your company’s strategy both when things are going well and when a downturn occurs.

And most important of all: Regardless of the title on the business card, make sure you have had the opportunity to fully explain your company’s strategy to the person at the bank who’s going to review and approve your banking transaction.

Remember, in the State of Washington, verbal agreements regarding the lending of money do not have any force of law.

 

Revitalization Partners is a Northwest business advisory and restructuring management firm with a demonstrated track record of achieving the best possible outcomes for our clients. And now, we’ve written a book to help our readers understand the issues facing their businesses. You can find this compilation of our business thoughts at: https://revitalizationpartners.com/we-could-write-a-book/ or on Amazon.

We specialize in improving the operational and financial results of companies and providing hands-on expertise in virtually every circumstance, with a focus on small and mid-market organizations.

Whether your requirement is Interim Management, a Business Assessment, Revitalization and Reengineering or Receivership/Bankruptcy Support, we focus on giving you the best resolution in the fastest time with the highest possible return.