PracticeAccounting FirmsRecession strategy: surgery, not butchery

Recession strategy: surgery, not butchery

Cost cutting in a recession must be part of a long-term strategy

Strategy is the long-term direction of a business. In a recession this can be
skewed by short-termism and a negative outlook.

The current situation is not helped by the fact that so few managers have
experienced a recessionary environment, as well as the depth of uncertainty now
being faced. The challenge of making strategy in such circumstances certainly
involves managing for a recession but that does not necessarily mean neglecting
the longer term. The critical first step to achieve this balance is to
understand the nature of the recession and its possible effects on the longer
term business environment.

In this respect there are two significant factors that management needs to be
aware of.

First, not all recessions are the same, and their impacts are not
predictable. The indications are that the current downturn will be deeper and
longer than any we have witnessed for decades, and will be coupled with a
significant ‘credit squeeze’. So managers need to build this into their
long-term plans as well as
short-term budgets.

Second, recessions can mask deeper structural changes, more fundamental than
cyclical corrections.

Realignments in economic power, restructuring of global financial markets,
credit availability and costs have important long-term strategic implications
for many businesses and whole industries. Predicting the out-turn is impossible,
but we can be certain business dynamics will be significantly different coming
out of this recession than coming in and, as we argue later, maintaining
strategic flexibility will be important.

When balancing action to deal with recessionary conditions with longer term
strategic needs, there are several points to consider.

Cutting costs is an inevitable aspect of working through a downturn, but
strategy-makers need to be cautious about the basis on which they are made. The
temptation is to cut those costs that are easiest. A more strategic approach,
and likely a more effective one, is to identify the costs least important to
delivering what customers, particularly major customers, really value. This not
only needs to be based on a deep understanding of customers’ needs, but also on
re-evaluating what business activities actually deliver what customers value
and, crucially, which don’t. This isn’t just a short-term exercise in
identifying unnecessary costs. It has the long-term benefit of identifying which
activities really deliver competitive advantage. It also ensures that costs cut
now do not harm the future potential of the business.

Strategy in a recession is also about building and maintaining as much
flexibility as possible, both to ready the organisation for the post recession
situation and to deal with unforeseen events. This is especially important when
considering major expenditure, such as capital investment. Development should
only be initiated where there is the option for extension, rather than making an
immediate commitment to major and long-term spend. In the same way, strategic
alliances and partnerships might be a more appropriate flexible option than
merger or acquisition for example.

An obvious point, but one not always systematically dealt with, is that a
recession presents opportunities. Businesses become available at a lower cost;
competitors pull out of markets; more firms are looking to outsource their
costs; other businesses need a ‘safe haven’, a partner or parent through
difficult times. All of which present opportunities; but they need to be
considered in the context of longer term strategy.

A further issue is people strategy and development. Again, short-term needs
must be balanced against developing long-term capability. Do you have the right
expertise to deal with a recession? If not, you need to work out how to bring
this into your business. Given the good times of the recent past, it is likely
that some boards will not have the experience needed for the current situation.
Could the addition of one or two non-executive directors with relevant
experience be useful?

Even during a downturn, the best managers will still be mobile. So how do you
retain your best people and ensure their future development, when management
development costs are likely to be under pressure?

This is a leadership challenge. Talent development has to be brought
in-house. The need is to focus on selected senior managers, to develop their
capabilities to coach and mentor others. So one place that HR spend cannot be
reduced is in the support and development of these senior people themselves.

Finally, in balancing the short-term pressures with longer term strategy,
more than ever, openness is crucial.

Be open and honest with key stakeholders, talk to customer groups – and, of
course, to the financiers. Now is not the time to be coy with banks, and the
time invested in talking through the position, opportunities and strategy of a
business, in creating a genuine and explicit understanding, is hugely valuable
in building for the future.

The bottom line for managing strategy in a recession is not to sacrifice
long-term competitive advantage in the search for short-term cost savings.It is
feasible to achieve both.

Cash crash

Businesses often fail because of a lack of credit, not necessarily because
they are a poor proposition or are badly run. Good finance directors will focus
on cash flow, keep working capital under control and ensure all the major
expenses are focused on creating value. This is the time to target strategy for
getting the most from the organisation’s product and customer portfolios.

The standard guide is that roughly 80% of profit comes from 20% of products
and customers, which means there are usually some customers and products which
don’t contribute, or which even destroy profit. Now is the time to get rid of
the tail.

This is especially true in retail and manufacturing, where businesses can be
involved in multiple versions of the same product or service, which creates
complexity and cost with little return. As a result, all the businesses in the
chain have excess inventories and costs.

While there may have been resistance to slimming down offerings in the past,
there is the chance to create new agreements with retailers, who will also be
looking to cut inventories. And, looking ahead, a recession may well be the
chance for greater collaboration between manufacturers and retailers to look at
costs and improve long-term working relationships, and to change what can be an
adversarial relationship.

Professor Gerry Johnson and Professor David
are from the Lancaster Centre for Strategic Management,
Lancaster University Management School

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