“What if…,” he said. “What if you do everything right in this new business and for reasons totally beyond your control, it goes bust? You’ve done the best job that anyone could do, but it’s not enough. What then?”

Pat Liles, Professor of Entrepreneurship, was one of my mentors in those days. I had just finished telling him (1.) that I had just turned 40; (2.) that I had just purchased a new home with an 18% mortgage (early ’80s); (3.) that Annie and I had just brought our fifth child into the world; and, therefore (4.) I had 20 years’ worth of college term bills to look forward to. And – oh yeah – I was fully committed, with a partner, to starting a new business.

“For your family’s sake, if not your own,” he continued, “you can’t afford to let that happen. You have to assess the downside and hedge your risk. You can’t put all of your eggs in that single basket.”

Pat was right. Despite my best efforts, the business did go bust, but not before I had responded to Pat’s homework assignment and developed a back-up strategy which ultimately morphed into my now 25-year consulting practice. In retrospect, it all resulted from protecting my downside.

There have been a lot of downsides tested during the past year. A lot of basic assumptions have been questioned, leading managers much more frequently to say “What if…”

For example:

In a conference call twelve months ago, the financially-astute director of one of my client companies was telling the rest of the Board, and me, that having more than $100,000 on deposit in any bank was risky. It was hard to believe that big bank failures were imminent, but we pulled the $700,000 balance – seven months worth of venture funding – from our large Boston bank and invested it in a ladder of almost-zero-yield T-bills. Better safe than sorry. We all slept better during the next several months.

The management team of another client company in December 2008 decided that its record profits and substantial project backlog were evidence that its growth strategy was working. Consequently, the managers projected a 25% revenue increase for 2009, only to discover by the end of January that nothing more was coming in the door. Their Fortune 500- level clientele had put most of their 2009 initiatives on hold. Many painful decisions, involving salary reductions and furloughs, ultimately led to a new compensation structure with lower fixed salaries and strong incentives based on generating and closing qualified leads.

A third client of mine also had a record-breaking year in FY08, benefitting from the revenue and profitability growth which resulted from bringing a new manufacturing facility on line. Feeling quite secure after several years of steady pay hikes, the 100 employees on the shop floor were looking forward to a continuation of 30% overtime, which increased their weekly paychecks by an average of 45%. Surprise: 2009 brought a revenue drop of 10%; new equipment increased productivity by 10%, and for much of the year O.T. was zero. But everyone still had a job, and the company continues to make money.

From these and my other client experiences in 2009, five lessons for small business management are worth reiterating:

1. You absolutely have to consider the downside – the worst-case scenario. At some point in your historic growth, your revenues were 30% less than they are today. Just take the back of an envelope: what would it take to cut back to that level right now? If your fixed costs preclude it, you may want to reconsider your risk profile.

2. Most employees are resilient enough to handle salary reductions and furloughs IF (a.) they’re not alone; (b.) it’s fair; (c.) it’s well-communicated; (d.) it’s temporary; and (e.) the state’s unemployment fund picks up some of the payroll shortfall. It also helps if it occurs during the summer.

3. The bigger the bank, the harder they fall – on you. But community bankers don’t have delusions of grandeur. For the most part, they have come to terms with the traditional risk- reward profile of commercial banking. Long-term relationships pay off in tough times, and there hasn’t been much turnover in the smaller banks – the person you started with five years ago likely is still involved in your account.

4. Cash is not only king, it’s the only game in town when everyone else is struggling for credit. Positive cash comes from the President leaving no uncertain terms on credit and monitoring the collection process him/herself. Positive cash allows you to take discounts from your vendors, which added almost a percentage point of profit to client number two (above) this year.

5. The benefits of open-book management in contributing to a strong upside are well-documented. Even more significant, however, is the effect that shared financials have in mitigating the downside. “Here’s where we are today,” you say to your employees, “and here’s where we’ll be next quarter if everyone produces at 100%. We’re in this together.” You have to believe in them, for them to believe in you.

The new year of 2010 will start out better than the old year of 2009 did. But what we don’t learn from history, we are doomed to repeat. Centuries of economic activity have yet to remove the business cycle. Keep 2009 as a cautionary tale: having swung forth, the pendulum invariably swings back.

Alligator Bites

Another 2009 “What if…” learning experience…

“Oprah Winfrey probably thought she would see nothing but an explosion of gratitude when she tried to treat the entire Internet to two pieces of KFC’s new Kentucky Grilled Chicken by promoting a downloadable coupon (no longer available) that could be redeemed at ‘participating restaurants.’ Little did she realize….

“When you combine the enormous drawing power of Oprah, the viral capabilities of the Internet… the general allure of anything that’s free, and the state of the economy, the systems supporting the download should have been set up in anticipation of substantially greater turnout for Oprah’s chicken giveaway than we had in the last election.

“This didn’t happen, or didn’t happen enough, and Oprah.com commenters complained of hours-long delays in downloading the coupon, if they could download it at all.

“Furthermore, if anyone warned KFC locations ahead of time that this was coming, that warning apparently did not contain enough exclamation points and underlined words….

“The result? The perception of a massive customer- service failure at precisely the moment when KFC was going for good PR. Customers who did get their coupons and trudged to a Manhattan KFC reportedly staged some sort of protest when they weren’t served.

“You don’t really want the theme of your giveaway to be ‘civil disobedience.’ Nor do you want to spend the day after what should have been your moment of triumph clarifying ‘there was no riot.'”

– Linda Holmes, reporting on NPR, May 7, 2009

Draining the Swamp

Selected Economic Data –	12/8 2009	12/31 2008
Dow- Jones Industrial Average	10,286	8,776
NASDAQ	2,173	1,212
S & P 500	1,092	903
Euro: U.S. Dollar	$1.47	$1.40
G.B. Pound: U.S. Dollar	$1.63	$1.46
Canadian $: U.S. Dollar	$ .94	$ .82
Daily crude oil imports (million barrels)*	8.450	9.675
Crude oil inventory (million barrels)*	337.4	317.4
Unem­ployment Rate**	10.0%	6.8%

 

Source: Market Data Center , Wall Street Journal

*Oil statistics from 11/28/08 and 11/27/09

**Data from U.S. Bureau of Labor Statistics for 11/30/09 and 11/30/08