What Management Strategy Should I Use in an Economic Downturn?

Like dangerous curves on a racetrack, economic downturns create more opportunities for companies to move from the middle of the pack into leadership positions than any other time in business.

The typical response of businesses during recessions is to lay off workers, accumulate cash and retain liquidity, and put off expansion plans until the business environment improves. While these are certainly understandable strategies, our contention here is that these strategies are counterproductive. Unlike straight-aways where leaders can thrive on raw power alone, steep curves require strategic finesse. That often results in dramatic differences in performance as leaders steer out of the curve.

For instance, downsizing might seem attractive because it enables businesses to cut costs. However, the companies have to realize that once they downsize, the best along with the worst of the employees leave the company. The latter because they are laid off and the former because they see that in future they might be the targets. Of course, the companies can retain the best performers by increasing their compensation but this strategy is pointless when the whole objective is to cut costs.

Next, research has shown that American companies are sitting on a cash hoard, which means that they have accumulated enough cash reserves just in case they face a liquidity problem in the same manner in which banks found themselves in the aftermath of the Great Recession of 2007 when liquidity dried up and nobody was lending to anybody. Again, this is legitimate as long as the companies do not keep cash without making use of it productively. In other words, if the firm is simply having lots of cash in hand, it is akin to individuals keeping the money without generating returns. Moreover, this strategy also means that recovery is delayed and no matter how hard the government tries, businesses simply do not want to spend cash.

Recessions hit some industries harder than others, so staying alert matters. The variations get amplified in a globalizing, interdependent economy. That adds both opportunity and complexity. The opportunity is to shift focus to economically healthier regions. The complexity arises from having to make long-term investments in global operations with less certainty than ever about where you will be exposed when the next downturn hits.

Many industry leaders fall from the top during recessions because they assume that a strong market position is an insurance policy against trouble. That approach breeds overconfidence. Executives postpone taking precautions or reach for the same levers they pulled in the past — like hedging their bets by diversifying. When the downturn hits hard they usually over-react. They slash costs and staff indiscriminately, cut capital expenditures, squeeze suppliers, and avoid strategic acquisitions. Then when conditions improve, they must spend heavily to regain momentum.