There is a Cost to Flexibility in Business Design

The future is not predictable with any precession. Yes, we can say our busy season is between the months of X and Y, but what the actual demand in those months will be is a guess. In normal times, i.e. non-recessionary, we might be able to make pretty good guesses based upon the prior year. However, the last two years has probably shown you the fallacy of using the prior year as an estimate of the current year. So, what does one do if they don’t have a good working crystal ball?

The answer is to design your business to be flexible so that you can adapt to whatever the future brings. There are two basic categories for this design – decision making and financial resources. This flexibility does come with a cost.

Deciding how you are going to decide is a key, low cost, process that can return millions. Decentralized decision making, the willingness to revisit previous decisions, and decisions made with the implementation tied to a contingency are all factors that you can build into the decision process that will allow you to adopt more quickly. But, to make this work you must also maintain the financial resources necessary to implement the changes, and this is not free.

Maintaining a low debt/equity ratio and a higher than average current ratio means that your resources are not all committed. But the very fact that they are not committed means that your profitability is not as high as it might be. You can think of this as taking lower profits in order to maintain a level of safety. You can ballpark what this safety factor is costing you in lower profits by calculating the total amount of additional equity that is not invested in operations times the operating profit percentage.

The Scalable Company

Software designers are always worried about the scalability of their programs. That is “how easily can the package be expanded if the number of users or transactions were to triple or quadruple?” Businesses do the same thing, although usually not by design. If a process gets to be a problem, then it is redesigned at that time in order to more efficiently handle expected future volumes. The current recession however shows that there is also a need to contract at times, which got me to thinking about what a “Scalable Company” might look like.

Actually, a few minutes thought will give you an ‘ah ha’ moment in which you realize that a Scalable Company is simply one that management, when given the option of a variable vs. a fixed cost, they always elect the variable. These companies avoid operational leverage like the plague and as a result there bottom line isn’t as good when sales are booming, but they have a much easier time adjusting to slow years since their fixed cost “nut” is small. Once I realized this, it was an easy start to producing a list of characteristics that would belong to a Scalable Company:

• Low inventories – pays more for shipping less than idea volumes, i.e. LTL, and foregoes many volume discounts.


• Salaries - negotiates lower base salaries coupled with a profit sharing plan for employees with salary plans. This makes their wages behave a little more like commissioned people. Wherever practical, commission plans are offered over straight salary.


• Pension plans elect to use profit sharing rather than safe-harbor options for company matches.


• Building rental agreements have a fixed, below market share, component and a percentage of sales.


• Long-term debts are structured to keep the payments low while allowing rapid pay-down in good times.


• Rental equipment is preferred to ownership.


• Business processes are highly automated so that can continue to function even if the number of people using them decline.


• Fringe benefits are few and do not include complex qualified plans.


• Advertising and other agreements always allow for an adjustment downward in volume allowing the business to elect to forgo discounts during the agreement period if their needs decrease.

Is the Scalable Company a good idea? Well maybe, after all there are a lot of businesses currently paying the price for not being able to contract as consumer demand declined. However, there is always the danger of preparing to fight the last war rather than the one that will actually happen. That said, once the recovery has happened and we have a few good years behind us, you might want to prepare for the next down-turn by making your business more scalable.

What should you be doing during a recession?

The answer is mostly the same things when the economy is not in a recession – taking care of basics first. These things include:
• Interview perspective employees regularly and don’t try and hide it. Regular interviewing has a lot of advantages. It keeps your interviewing skills sharp and provides you with a lot of recent resumes should you need someone in a hurry. It also puts your staff on notice that they are not indispensible.
• Adjust your marketing plans to be in-line with expected sales. Spending more on advertising when people aren’t hitting the doors might seem like the right thing, but in my experience, if the public isn’t ready to buy, they won’t. Conversely, spending nothing is probably not a wise idea either. The few people that are spending need to know that you are still in business. I believe that the better plan is to spend no more and no less than what you normally would as a percentage of the sales that you can expect.
• Treat your customers better than ever. They are always valuable, but today more than ever.
• Keep your premises looking clean, neat and the shelves stocked. You need to always appear to be ready to do business even if the number of people coming through the doors is down.
• Evaluate one of your major business processes each week. Operating on a reduced staff as many businesses are today puts your staff under a considerable amount of stress. Stress that will eventually affect your customers. This can be reduced by reviewing and eliminating things that people do that are no longer as important as they once might have been.

As the leader of your business, it’s always your job to be looking ahead and only thing that I know for certain in these uncertain times is that this recession, like all the others before it, will eventually pass into history.

Book Review – The Great Depression Ahead by Harry S. Dent, Jr.

If you really want to get depressed, this is the book for you. I bought two copies of this new release, one for me and another for a client. However, I haven’t yet sent the client, a retailer, his copy because I was afraid he had enough problems with the current economy that adding Mr. Dent’s predictions of the future might be too much. Sooner or later I will have to deliver it because I suspect Mr. Dent is more right than he is wrong.

Predicting the future is extremely problematic as any historian will tell you. We only have the current trend lines to work with in an increasing interdependent and complex world that will undoubtedly produce unpredictable changes in those trend lines. People who read Thomas Malthus’ An Essay of the Principle of Population also had good reasons to believe that his predictions of population growth vs. food production would most certainly lead to mass starvation. Nobody of that time period could have foreseen the benefits that technology would eventually produce in the efficiency of production. Nor, could they have foreseen the decline in population growth rates by modern industrial societies. It turns out that the desire to have a lot of kids was mostly driven by potential economic benefits rather than some natural desire to produce as many copies of your genes as possible. That said, I think Mr. Dent’s approach to prediction is much more solid than those of all the experts that the cable news people constantly parade in front of us.

I have read Mr. Dent’s previous two books predicting great time from the 80’s onward. He was certainly right for the most part. He has also made some fairly large flubs including the prediction that the Dow would reach 40,000. This miss must have stung, because I have seen several explanations from him regarding how he was right except for things like dollar demand, etc. The current recession was not predicted in his earlier books which is understandable since the root cause of this downturn appears to be systemic rather than demographic driven. However, it is apparent that this recession is going to be longer than most which might be the result of it running into the demographic slow down in spending that Mr. Dent did predict.

I highly recommend that every business owner read this book. Demographics is probably the best explanation for a good part of why you have a series of good years and then a demand drop off when you are essentially doing the same thing for the whole period. The net gain or loss of population fitting your customer profiles might be the best predictor of the future for your business. I would net bet the farm on his predictions, but I would certainly consider them as possibilities.

Business Cyles are Alive and Well

When the economy is booming along, we occasionally hear people theorize that business cycles have lost their significance. Usually, this prophecy is based upon the idea that the Government and the Fed have gotten so good at managing the money supply, only small amounts of inflation and deflation are needed to keep everything on course. The current recession makes this idea look kind of silly, but we will get through this and sooner or later the theory will resurface.

Capitalism has proven to be a great motivator and in conjunction with open markets it has been the proven model for producing economic efficiency. However, it does have at least two forms of instability built into the system that will always be a part of it.

• Old ways of doing business are constantly being challenged by people with new ideas in the hopes that their concepts will make them wealthy. A certain number of times they succeed which puts the old businesses out of business.


• Business owners are incurable optimists about the demand for their products and services, otherwise why would they be in the business. This optimism drives them to over inventory which inevitably produces an oversupply and eventually a slowdown as they try to get those inventory levels back under control.

Recognizing that business cycles are an inevitable and natural part of life can greatly improve your business and investment planning. The tendency for most of us is to think that the next day, month, quarter or year will be a lot like yesterday. It is a mistake to think this way. Better to recognize that we are somewhere around the bottom of a recession and that sooner or later the recovery is going to happen. It’s not hard for me to picture a few years in the future wishing I had bought a lot of Ford stock when it was $2 a share.

Identifying your Business Processes

A process is any set of repetitive steps. It’s important to have a process starting and ending place that makes sense for your size business. Every small retail chain has these processes that make them money.

• Purchasing process – starts with a decision by the store manager to replenish the inventory, through the receipt of goods by the store and ends with payment of the vendor’s invoice by the accounting department.
• Sales process – starts when a potential customer enters the door and ends with their commitment to buy.
• Delivery process – starts with the customer commitment to buy, through their receipt of goods and ends with their payment in the bank, including all the necessary accounting.

Additionally, there are a number of other processes your business may have, such as:

• Payroll
• Media buying
• Store cleaning
• Return Goods Process

Shaving just a little bit of time and cost off any of the process steps has a significant impact when viewed over any 12 month period. If lean mean operations are your goal, the process steps is where you need to be focused.

Business Process Strategy

Trying to be great at all things is a guaranteed loser. Your business must be truly great at something that appeals to your customers and adequate at all others. When you identify what you are, or hope to be great at, you need to identify all those business process that support that “one thing”.

For example, let’s say your “one thing” is superior delivery. You get it there on time, every time, with all the right stuff. That’s why your customers prize you over your competitors. Obviously, your delivery systems must be superb. Additionally, the systems that directly support the delivery systems must be above average. Your inventory system needs to provide the goods for delivery on time, every time. However, if your billing system isn’t the world’s greatest, your customers won’t leave. If billing was so important to them, they would already have left for the competitor with the superior billing process that probably isn’t that good at delivering on time.

When you identify the processes critical for the application of your business strategy, you know what processes need to be constantly improved to stay on top of your game. I recommend you formally review these systems at least once a year to explore what else can be done to keep them in superb shape.

The other processes only require being adequate to good. To spend money and time building a truly superb payroll system when your business advantage is speedy delivery is a waste of resources and poor management. Instead, regularly review the list of these processes and ask, “Is this business process adequate?” Fix those that are not and then go back to work on your critical processes.