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Making the Most of an
Uncertain Economy
How Small Business Can Remain Viable
The following is a holistic analysis of how small
businesses can make the most out of an uncertain economy.
 Employment
Everyone
seems to be worried about losing their jobs since the economy is not
creating jobs as fast as economist would like. The good news is
if you have a job you are probably not going to lose it as long as
you continue to work hard and to work smart (yes, both are
required). Larger companies are more stable at the moment, but
small business appears to be picking up steam. The information from
the Bureau of Labor Statistics has been much more subject to opinion
and factoids than it should be (i.e. birth-death count). The BLS
report in July showed only 18,000 jobs were created. The ADP labor
report was much more favorable and painted a much different view with
157,000 jobs created.
Additionally,
our economy needs to continue a massive migration and re-training
of our workforce from housing and housing-related industries as
well as the financial industry to other more creative parts of our
economy. For example, we employed 4-5 times as many individuals in
the housing market than needed: we were building 2,000,000 homes a
year when we only need 400,000-500,000 new homes a year. The
financial industry was 4% of the US economy between 1940 and 1980,
but continued to increase to over 8% of the US economy by 2006. This
is an enormous and time consuming endeavor which can take years to
complete.
To accelerate the timeline on this employment
migration our economy and society has to stop reflecting on the
"fake good old times" and start focusing on the future and
solutions for our economy. When I was a child someone told me it is
OK to complain as long as you bring three solutions for each of your
complaints. Perhaps our economy and society needs to follow this
rule.
Solution: If
you are an employer take this time to interview new employees. You
may be able to find good talent at bargain prices. If you are
an employee, continue to work hard and show your value. You can
use this as an opportunity to rise in the organization chart.
Gross Domestic Product (GDP) has been widely
criticized by the news and personal opinions. GDP is what our economy
produces. GDP reports have been volatile in estimates, actual
reported amounts and revised amounts. Most news reports have been
negative on growth; it's not strong enough for a post-recession
recovery. Why isn't GDP its historic 5%+ growth post-recession?
Perhaps it's because our demographics and economy have changed over
the past century. The Baby Boomers caused a population bubble and our
economy is less dependent on manufacturing than the past. If you
review our demographics 2.5-3% growth is actually pretty good for our
circumstances. We need to be able to judge GDP apples to apples, not
apples to oranges. Additionally, there is a better indicator for
smaller businesses to follow: Final Sales.
Solution:
Focus on the economic data which directly effects your
business. GDP is a broad indicator which may not be a
good baramoter for your business.
Business
Signal Should Be Final Sales, Not GDP
Small businesses should not be focused on the two
popular and easily reportable statistics (GDP and Employment). A
better barometer for small business is the Final Sales statistic.
Final Sales is exactly what it sounds like: what we sell. GDP is what
we produce. The difference is inventory additions or contractions. An
even better signal for the local small business economy would be
Final Sales for domestic, omitting exports and aerospace.
Guess what? When you look at the Final Sales
statistics they have been more stable and solid than the GDP
statistics. That is, we are still buying goods and services at a
steadily growing pace. Steady and consistent don't make the news
headlines because it is viewed as boring. To make us watch the news
and read the newspaper and websites the media needs to sell fear,
volatility, greed, excitement. In my opinion this is why the news
focuses on unemployment and GDP.
If what we sell continues its stable and solid climb,
small businesses will reap the rewards. Final sales for small
business (omitting real estate development) have steadily climbed the
first two quarters of 2011 from our observations. We believe the last
half of 2011 into the first quarter of 2012 is time to aggressively
play offense.
Solution:
Position your company to benefit from the steady growth in small
business.
Painful Growth
Solution: Use after-tax
profits to reduce debts and build cash balances. Owners must
keep profits in the business instead of distributing them out.
Fake Good Old Times
The new mantra needs to be "sacrifice now for a
better tomorrow." This is opposite from the "fake good old
times" of a few years ago when the unsaid slogan was "buy
today with no worries, tomorrow is automatically going to be better
and it's a day away". Simply stated, now we must earn it first
before we purchase it. Whereas in the "fake good old times"
it was "you deserve it" don't worry about earning it. This
is an agonizing reality for some and difficult for many to transfer
to. Mentally we already believe we deserve it, so earning it doesn't
seem fair. These attitudes will need to have a massive formation in
order for economy to reposition itself.
Solution:
Be flexible mentaly and financially. Ask yourself, do you
really need to make the purchase? Is it a want or a need?
Real Estate (Just Don't Do
It!)
Since the end of the first quarter this year I have
also contemplated real estate. For years we have been hearing real
estate is a "good buy" for the long-term. However, the
individuals using this statistics are basing the "good buy"
signal from the "fake" fair market price at the top of the
real estate bubble. Even if you could find a great house or building
to purchase, who is going to finance you? At this point in time,
banks cannot make good loans because all of the capital on their
books is servicing the bad loans of the past.
I am beginning to wonder if we are 1/5 of the way
through our real estate crisis. With all of the extra inventory, the
continued hidden bad loans and problems on banks' balance sheets,
manipulating interest rates low, pricing pressure, thefts at empty
homes, etc. As many of you know I have been bearish since 2005. It is
5 ½ years later and I am beginning to believe we are 1/5 of the way
through this disarray. This may be with us for the rest of our lives.
Additionally, people tend to purchase cars and houses
passed on month cash outflow, not necessarily price. Mortgage
payments are a combination of principle and interest. If interest
rates increase (which most economist believe they will in 2012) then
the principle portion of the mortgage payment must decease (i.e.
purchase price) for the mortgage payment to remain the same. With
high unemployment and stagnant wages, the average family's budget for
their mortgage payment will most likely not change for several years.
Finally on this topic, the flippers may continue to
reset the fair market values (FMV) downward. A flipper is a
short-term investor. They purchase a house for a significant discount
(say 50%), then they place about 10% into renovations (band aids to
sale it) and finally they try to sale it as soon as possible. They
don't need to sell it for 100% of the FMV because they have a 40%
margin and don't want to get stuck holding it. So they may see it for
90% or 80% of FMV, still leaving them a 20-30% margin. However, when
they resell it 10-20% below the FMV, in this market, they are
resetting the FMV for all similar homes in the area.
Solution: If you are buying
real estate, buy for the long-term. Perhaps understand the reason you
are making the purchase and taking on leverage (in this deleveraging
world). Is this your primary home or an investments? Is this property
to rent or to flip? Do you have a cash flow plan (best case and worst
case)?
A Paradigm
Shift?
Our economy expanded due to five primary reasons from
the 1980's to 2005: globalization, favorable fiscal (tax) policy,
favorable monetary policy, innovation of technology (i.e. computer),
and population growth.
These five key elements have run their course or are
desperate of a recharge. Currently, globalization has included almost
every nation on Earth. The nations globalization has not touched key
are primarily due to security reasons (i.e. not much more room to
expand).
Tax rates have become more and more favorable during
the past 70+ years. The government use to finance its operations by
taxes. Since the 1970's the government went from taxing taxpayers to
fund operations to borrowing from taxpayers and foreign governments
to fund operations. Tax policy and regulation are primed to increase
compared to our recent history.
Are you alive? You get a loan! Well, not any more.
Monetary policy is being tightened back to realistic standards (it
will seem unfair to what we grew up to, but the standards are
historically getting back in line).
Innovation of technology with the computer had a good
run. Industries were set up in software, microprocessors, and other
computer components. But the run appears to be over. What will the
next innovation be? Many experts believe it will not be until the
2030's (10 years to figure out what it is and 10 years to build an
economy around it) which we can develop the next innovation to drive
the economy.
100 years ago it was common to have a handful of
siblings (4 - 6 brothers and sisters). As the birth rate continues to
decline, so does our population growth. Population growth feeds
economic growth for some basic reasons: more mouths to feed, more
students to teach and more homes to be built. As the population
growth slows, so will our demand for these types of products and
services.
Another element, although not perhaps a main factor,
was for 30 years commodities were cheap! This is more than likely a
part of the monetary policy, but it deserves a little attention. Most
people would tell you gas, oil, food, gold and other metals are no
longer cheap at all. Can our new economy adjust to higher commodity
prices? If we can innovation and increase productivity perhaps this
will not be an issues, but in the short-run we no longer like
stopping by the gas station for a fill up!
Another shift is younger generations are not fully
buying into monetary and fiscal policy like older generations have.
This is partly because older generations used their own credit cards
and the credit cards of younger generations to reap benefits (for the
older generation). The benefits included lower tax rates than they
should have had and more benefits from the government than they
should have received. They are now passing the bill to the younger
generation to pay in the form of more taxes and less benefits. It's
no wonder the younger generation is not buying into the political and
fiscal policies. Why would anyone want to pay for the previous generation?
What will the new economic drivers be? Biotech or more
dense and urban living? Mass transportation and energy
infrastructure? Perhaps the new economic driver will be a new way of
communicating.
How will we communication in the future? In the past
we wrote letters and used meaningful words; then wire cables sped up
the communication, but the amount of words were limited; telephones
allowed for an instant communication; cellphones allowed you to be
tracked down anywhere; and texting demands an instant reply. The
result is today we use communication all the time, but rarely use
good grammar or say something important. Will the future of
communication be a combination of FaceBook and Skype?
Conclusion
Small businesses are in a good position to increase
revenues for the remainder of 2011 and perhaps the first quarter of
2012. There remains' persistent challenges which require business
owners and employees alike to work both smarter and harder. Finally,
stay focused and don't be distracted by the fear mongering news.
Please contact us if you would like to discuss any of
the topics we mentioned, an advisory meeting to strengthen your
financial position, how to take advantage of the current economic environment
and for year-end tax planning.
We
understand working-capital, liquidity and debt pressures will make
this growth cycle feel painful, possibly stinging more than the
depression small businesses just survived. The frustration and stress
levels will continue to stay high as working harder and working
smarter will be mandatory to survival. Cash flow will add to stress
as small business continue to use current year profits to pay last
year's bills instead of reinvesting in the business. This may also be
disruptive to moral as you can see where you want your business to be
but do not have the funds to reposition. However, the more expedient
you can correct your business and personal balance sheet the quicker
you can move through your pain points and the stronger your future
financial position will be (i.e. sacrifice today for a better
tomorrow).
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