Evaluate the strategies that a business
A recession, two negative quarters of GDP in an economy, is inevitably going to lead to a business getting less customers. Its overhead costs will be the same, but its unit costs will be higher because it will not be producing as many products but will still have these fixed costs. This will make the business less profitable in the short-term and so strategies must be implemented to try to improve the business’s short-term and long-term prosperity. Such strategies might include improving its cash flow position, downsizing, decreasing its costs, decreasing its gearing and managing its receivables and payables more carefully.
A strategy of improving cash flow will involve many aspects. They will need to decrease their fixed costs so that their unit costs will decrease and it will be easier to make a profit in the difficult economic climate. This may involve selling off excess machinery or ordering less inventories, or it may involve increasing its operational efficiency by holding less inventories and thus lowering its storage costs. Ultimately, improving its cash flow will enable the business to remain more liquid in hard times, where investors (e.g. banks) will be less financially lenient, in the way of loaning money to businesses, during a recession.
Thus it is more crucial than ever for a business to ensure its best cash flow during a recession. Rickmers said it is only giving out about 14 per cent of its distributable cash flow because it is continuing its cash conservation efforts amid unresolved financing issues. Its charter revenue rose 29 per cent to US $38 million in the quarter. The constraints of this strategy are plentiful. If the business must take tight control of its cash flow then it will be rigid and less able to respond to sudden one-off increases in demand, and so miss possible greater profit (the opportunity cost). Another problem is that if the business is holding a lot of money the opportunity cost of holding this money is rife.
They could invest the money on research and development or marketing for example, which would lead to greater long-term efficiency. Apple have done just this, bringing out the iPad in the depth of the recession. The product has provided much revenue for Apple – so their spending on research and development and development of the iPad has actually generated profit, increasing the profit of Apple and making it more competitive and better able to survive the recession. Focusing on liquidity without being careful to optimise their costs rather than blindly minimise them, therefore, could be seen as a form of short-termism, and disadvantageous to the firm. Also, the procedure of ensuring liquidity is not without its limits, as certain profit centres may decide to window-dress in order to remain favourable by central management. Therefore, if these inaccuracies were not accounted for, along with the invariable not totally reliable estimations of net present value, etc, the current ratio could be inaccurate and kept too low for healthy cash flow, threatening the business’s liquidity and ultimately its survival.
A strategy of operational rationalisation could be undertaken. This could include capacity utilisation, reducing unit costs or possibly accepting a one-time offer. Capacity utilisation involves increasing the business’s output as a proportion of its total possible capacity (output). This could be achieved by either decreasing its amount of machinery, etc, or increasing its production scale. Increasing its rate of production may sound foolish in times of decreased demand, but if their product is income inelastic, the important issue for the business is not a decrease in demand but perhaps the availability of the product. If they could produce on a greater scale, achieving economies of scale and greater operational efficiency, they may be able to drive out struggling smaller competitors and gain a greater market share and thus greater profits. The problem with capacity utilisation is that it is never possible to totally predict demand for the product in a difficult economic climate.
Thus, if too high a demand is predicted, wastage will occur – adding to non-fixed costs and reducing the business’s profitability. The other problem is that when producing on a greater scale, diseconomies of scale may set in: e.g., communication may become poor, control of the business may become less tight and coordination of the operations of the business may become disorganised, leading to reduced profitability. Nonetheless, one would expect an overall increase in profitability by adopting this method. Reducing unit costs would decrease the required number of units sold in order to break even. Thus, in times of decreased demand for a product, especially for an income elastic product, less units could be sold for the same profits. To reduce unit costs a firm would have to reduce its overall fixed costs or its variable costs per unit.
It may do this in a number of different ways, e.g. reducing its machinery levels, cutting employees’ jobs or using cheaper materials to make its products. An Intellect report (State of the UK Technology Sector – President’s Report 2009) demonstrated that while the recession has tightened budgets, companies are also focusing on using IT to increase efficiency and cost reduction projects. The drawback of this very harsh method is that if employees become affected by the behaviour of the firm, then the firm may suffer from a bad image and from a decrease in productive efficiency in the form of increased absenteeism rates and even increased labour turnover. This would lead to lower profitability for the firm and an increase in fixed costs for training and recruitment in the case of the latter.
Human resource strategies adopted in a recession might include adopting flexible employment patterns, such as part-time workers, teleworkers and employees on short-term contracts. They may find that they must make redundant some employees, although this will usually be avoided if possible due to the stigmatisation the firm would receive for doing so and for the avoidance of large redundancy payments (average being ï¿½12,000), which will increase the firm’s overheads and reduce its profitability. If the firm chose to employ more short-term workers as a proportion of the total workforce then it could benefit from having the option to not renew its workers’ contracts if it found that it had decreased demand for labour. This would be a favourable alternative to redundancies because it would avoid the large redundancy payouts.
In a recession, where there is a decrease in demand for most businesses’ products, there would be expected to be a decrease in labour needed at the firm. Thus the strategy of hiring more short-term workers is very applicable to a recession. The problem with this approach is that, if the firm finds that actually it wants to keep a lot of its short-term workers, they have no obligation to stay, and may be poached by other businesses who can offer them something better than their current job satisfaction, e.g. greater career development. Thus the firm would end up having to recruit and select more workers, costing a lot of money, fixed costs thus rise and the firms overall profitability is undermined. A report by the CBI did find however that 61% of businesses reported a recruitment freeze in all or part of their organisation. This is a good way of letting the number of workers fall and avoiding redundancy payments and the problems that short-term workers can cause, e.g. poaching, social, etc.
Teleworkers, workers from home, save the business in monetary terms by the very nature of their work. They save the business from costs such as the cost of hiring an office for said employee. Therefore, the business will be able to save on fixed costs, yet still get the right workers for the job. Drawbacks of such a method, however, include a lack of worker efficiency due to an inability to manage their home-work interface and a lack of motivation due to decreased social needs (according to Maslow’s hierarchy of needs).
Part-time workers and the contractual fringe (according to Handy) would provide the business with a workforce more able to respond to flexible demand. DoubleStar Inc., a human resources firm based in West Chester, Penn., hired two temp workers recently to join its 60-person staff. CEO Harry Griendling says in normal times he would have hired two permanent employees. They may be asked to do extra work when required, but do not need to be paid full-time for hours where there is not much need for their service. Such efficiency of human resources allows for superb labour utilisation and saves the business a lot of money in labour costs (one of the most expensive costs for UK firms). These savings can be passed on to the consumer to provide a more competitive product, i.e. cheaper, so will attract more customers.
Drawbacks of part-time workers include their lack of commitment to the firm, they may not be as loyal and may look for job security at another job. Part-time workers also require as much training as full-time workers, yet do less work. Would it not make sense to employ less workers, as full-time workers to save on selection, recruitment and training costs? The contractual fringe may save the business training costs but they will be less familiar with the aims and workings of the business, so may work less efficiently towards the end goal, unless regularly briefed on their role in the firm.
What is evident, is that businesses are paying their employees less. A report by the CBI found that most employers are planning pay freezes or only moderate increases in pay in the next pay round (2009). While difficult economic circumstances will mean lower bonuses over the next few years, few companies are deciding to abandon their bonus schemes. In Nestle’s York factory, Nestlï¿½ said it would be irresponsible to raise wages in such tough times, but the unions said another year without a pay increase was unacceptable, especially after staff had helped boost productivity.
One of the most drastic strategies that can be adopted in a recession is that of diversifying into a new market. There are great opportunities to be taken advantage of in a recession. Tomlinson, a UK based insolvency practitioners, have seen a marked rise in trade during the past six months. Tomlinson has reported an 8.8% increase in insolvencies in the third quarter of 2008 compared with the second quarter. “We expect the number of personal insolvencies to rise from around 110,000 this year to around 140,000 in 2009 and even further thereafter.” This creates a great opportunity for business for their particular line of work – working with clients struggling with insolvency. If a business decided to diversify into an expanding sector in the recession, there would be great scope for high profits from them. Focusing on particular profit centres that are doing well is another way of helping to survive the recession.
Although the older brands of the Arcadia empire e.g. Dorothy Perkins and Burton are experiencing decreased sales, the brands aimed at younger buyers are experiencing increases in sales despite the recession. Topshop, Topman and Miss Selfridge have experienced record sales, due to the fact that young people are not being affected by the burden of having a mortgage.