Chances are, like most business owners, you don’t operate a recession-proof business. Unfortunately, COVID-19 has already strapped businesses’ access to financial relief and resources will be even more difficult to come by as the recession worsens.
All of this is to say that if they haven’t already, small business owners should be preparing for a recession right now. Even without the COVID-19 pandemic in the mix, most companies wait until they’re already fully impacted by a recession to start adjusting.
This limits how businesses can respond to an economic downturn and gives them fewer options for navigating a murky future. Although this may all sound intimidating, it doesn’t have to be.
Here, we’ll discuss some of the simple actions you can take now to prepare your business for a recession—from trying to reduce expenses to streamlining your inventory processes.
7 Ways to Prepare Your Business for a Recession
When it comes down to it, preparation is your best asset when facing a recession—and if your business hasn’t been hit yet—this guide should help you weather the oncoming storm better than your competitors.
Let’s get started.
1. Update Your Payment Terms
During a recession, most companies scramble to protect their most precious resource: cash. As such, they may be slow to pay vendors or suppliers. Invoices that were once paid in 30 days, may now be paid in 50 days—or longer.
In better times, you can afford to be flexible with your payment terms and agreements with clients, but during a recession, each day without payment matters more. You must implement stricter payment terms and ensure that your invoicing and collections strategy is working.
Getting paid what you’re owed should always be a priority. During a recession, it should be your top priority. Take a look at your collections process and ensure that it:
- Offers 30- to 60-day payment terms only to worthy clients
- Sends invoices promptly on a consistent basis
- Uses a delivery acceptance letter
- Has an automated late notification for clients
- Uses a well-written contract that protects your business in the event of lapsed payments
Cash is at a premium during a recession, so you need to make sure that you’re collecting what you’re owed on time and in full.
2. Identify and Move on From Problem Clients
Companies that have poor credit histories or a tendency to pay invoices late, ask for special privileges, or often complain about your service are not reliable during a recession. During recession planning for your business, review your books to see which clients tend to pay early or on time and which tend to pay later. You want to keep the former happy and move on from the latter.
It may sound counterintuitive to get rid of clients during a recession, but it costs money and resources to provide goods and services to clients. If you can’t count on their full payments on time and people are putting in extra hours to make them happy, they are more than likely dragging your business down rather than improving it.
Clients who underpay or pay late should be transitioned to “pay in advance,” meaning they must pay for services before those services are rendered. Clients who are unprofitable should be let go after fulfilling all clauses in your existing contract with them.
That said, you can easily tell if an existing client is no longer viable by looking at their invoice history. New clients, however, present more of a challenge. Big companies with strong reputations may actually be struggling to balance debts.
Small, lesser-known companies may have an excellent track record of paying vendors on time. Fortunately, an easy way to tell if a client is worth taking on is by running a credit report.
Commercial credit reports at Ansonia, Dun & Bradstreet, and Experian will quickly tell you whether a corporate client is a risk or not. They’ll show how reliably potential clients pay other vendors, which is a good indicator of whether or not they’ll pay you on time. For individuals, you can use TransUnion or Experian.
3. Diversify Revenue
At the beginning of a recession, many small businesses make the mistake of cutting their marketing budgets. On the contrary, a recession is when you need marketing the most as a means to generate new business and develop new income streams.
Recessions impact the entire supply chain, which means your buyers and your suppliers both may experience cash flow problems before you do. If material costs become more expensive or clients can no longer afford your service, you’ll be in trouble.
During a recession, you should try to increase your number of customers so you aren’t disproportionately dependent on only a few. Whether you’re a D2C or B2B business, the right marketing strategy will help you generate more leads and attract more paying customers. Take a close look at your past marketing efforts to pinpoint which channels provided the greatest ROI and which weren’t worth the money. From there you can broaden your reach into new markets, try advertising on new platforms, and leverage your network to find new revenue streams.
A good rule is to look over your customer mix and if any single client represents more than 10% of your business, or your top five clients represent more than 25%, it’s time to diversify.
The best way to navigate a recession is to prosper through it. Although that’s easier said than done, cutting your marketing budget and reducing your revenue streams will hurt your business more than it will help in a recession.
4. Reduce Expenses
Yes, we’re advocating holding steady or increasing your marketing budget, but you should look to cut expenses elsewhere. Every business has some things that they can live without, you just need to know where to find them.
For instance, do you provide your employees with catered lunches or a full kitchen? Are your per diems for business trips exceptionally high? Do you have office space or office supplies you rarely use? Wherever you can cut discretionary spending, you should. Anything that doesn’t directly contribute to profits should go.
Unfortunately, that may come with a personal cost. Nobody wants to lay off employees, but they are typically the largest expense for small businesses. Analyze how much each team is contributing to your company’s bottom line and whether they can have approximately equal success with fewer individuals. If you can weather the storm by furloughing employees for a couple of months before bringing them back, that’s an option as well.
Finally, when business budgets tighten, debt tends to compound. Falling behind on loan or credit card payments will accrue more interest charges, which will make it extremely difficult to stay above water during a recession. As cash becomes available, pay down your debts, starting with your higher-interest loans first. If you have debts with suppliers, leverage your relationships with them to try to reduce interest rates, or increase the term length of the loan.
5. Build Cash Reserves
If you don’t already have an emergency fund for your business, you should start making one as part of your recession planning. That’s difficult when you’re making cuts, but it’s imperative that you have some cash reserves in case the recession carries on longer than expected or hits your business especially hard.
Not to mention, there will always be another rainy day that you’ll need to prepare for. A healthy emergency fund should be enough to cover three to six months’ worth of expenses.
Beyond an emergency fund, you should also prepare for the inevitable closure of businesses. When competitors shut down and sell their inventory, there may be an opportunity to create additional revenue streams.
Some closures may result in the bank auctioning off equipment or supplies at wholesale prices. Advertising costs also tend to plummet during recessions. Building cash reserves helps you to strike while the iron is hot to gain assets for your business and increase your brand reach on a budget.
6. Optimize Inventory
If your company keeps inventory, you know how difficult it is to manage. When you have too much inventory, it reduces your cash flow and you may have to sell it for less than you’d like. When you have too little, you may lose sales or customers.
In a recession, there’s a smaller margin for error, which makes optimizing your inventory crucial. Getting stuck with excess inventory during a recession may be an extremely costly error if you’re forced to sell it for a loss.
To optimize your inventory, take a walk through your warehouse and identify exactly how much stock you already have. Then, manage that existing inventory against your existing orders and forecasted sales. You should have enough inventory to accommodate your forecasted sales, plus a small safety allowance in case a product enjoys an unexpected boom.
Your inventory should be lean, especially if it doesn’t take too long to manufacture your products. If possible, eliminate warehouse costs entirely by having products shipped to customers directly from the manufacturer.
See if you can reduce inventory costs by negotiating new deals with manufacturers or utilizing cheaper materials, as long as it doesn’t sacrifice the quality of your product or inconvenience customers. Any unprofitable products or services should be cut from the business.
Optimizing your inventory requires some creative critical thinking and some advanced management. But finding the right amount of inventory to manufacture and have on hand during a recession can save you a significant amount of money.
7. Secure Financing
Getting financing during a recession can be incredibly difficult, as lenders may increase their qualifying requirements or stop lending altogether. After assessing your business’s finances and reviewing your contingency plans, you may decide that you’ll likely need an infusion of capital during an economic downturn.
If that’s the case, look into your funding options now instead of waiting for the recession to hit your business. A business line of credit is a great option because it offers a flexible way to take care of expenses in the short-term without taking on an extended loan. You’ll only pay interest on funds you wind up using and it’s a great resource to have in your back pocket.
Alternatively, some businesses do thrive through recessions. If you identify a growth opportunity for your business, an SBA loan or traditional bank loan might be just what you need to not only survive the recession, but come through the other side in the black.
The Bottom Line
There’s no doubt about it, a recession is scary for small businesses. It will be a lot scarier, however, if you haven’t prepared for it.
Hopefully, this guide can serve as a valuable resource for your business’s recession planning to help you identify the right areas to invest in to set yourself up for success.
- Worldbank.org. “COVID-19 to Plunge Global Economy into Worst Recession since World War II”
- Bloomberg.com. “U.S. Recession Model at 100% Confirms Downturn Is Already Here”
Nick Perry is a freelance writer based out of Boston. After working in Hollywood and Silicon Beach, he launched his own small business and frequently referenced Fundera’s resources. Now, he’s a contributing writer at Fundera. Nick has written extensively about small businesses, ecommerce, the restaurant industry, and entertainment. His work has appeared on Entrepreneur, Digital Trends, Toast’s On The Line, and more.