Write one key takeaway per chapter. Write at least 100 words for each chapter summary.
Business decisions are all about the future and must rely on a view of the future. Knowing how the economy affects a business helps in many other ways than sales analysis. We don’t make decisions about the past, but always about the future. Should we build new capacity to serve future demand? Should we lower our product prices today to boost sales over the next two quarters? Decisions about the future must have a vision of what the future will look like. You must always predict what will happen, and whether you are optimistic or pessimistic, you have a view of the future. However, we must know that forecasts are never perfect, and therefore we must be able to make changes to whatever decisions we made earlier. In order to predict what the future will look like, we can ask economists, as well as the marketing department, the engineering department or a good seasoned manager. A good manager’s judgement can often provide an accurate forecast, although it may be constrained by the limits of the manager’s experience. However, a mix of different people’s opinions is often a good answer to what the future will look like.
The business implication of this discussion of timing and magnitude of spending changes is that you have to know who your customers are, and perhaps who their customers are, in order to assess your own sensitivity to recession. When managing a business, you have to look at your sales and determine whether they are relatively volatile or relatively stable. You should also determine whether there are leads or lags between your sales and the overall economy. Gross domestic product (GDP) constitutes the market value of the goods and services provided within the US. A slightly different concept, gross national product, served as the main gauge of economic production for many years.
To anticipate a recession or downturn, a business leader must understand the causes of recessions and downturns. A business leader needs to know the signals of impending recessions and downturns. Academic theorists can look for elegant theories, and policymakers can study how to prevent or mitigate recessions. For a business, though, the crucial knowledge is what signals are given off by an economy nearing recession. Simple theories of recession don’t work very well because multiple strains on an economy often trigger the actual recession. Error in monetary policy is the most common cause of recession, and other causes of recession can be credit crunches, waves of optimism and pessimism, fiscal policy, and foreign business cycles.
All businesses must be aware of the basic drivers of Federal Reserve policy. The two key elements are: 1. The Fed is committed to low inflation. 2. Inflation occurs with a time lag, so the Fed will start fighting inflation when it anticipates inflation, not necessarily when inflation actually increases. Businesses for whom raw material constitute a major cost need to be attuned to the volatility of the prices of the things they buy. Those who purchase goods whose prices have historically been very unstable need to manage the business with that volatility in mind. Lon-term contracts should take this risk into account. Companies that are vulnerable to cost swings due to changes in raw materials prices should put price indicators on their early warning system.
Planning for a recession begins with an understanding of how vulnerable an enterprise is to a downturn. After the vulnerability assessment, some companies will sketch out only cursory contingency plans and will add only limited flexibility to their operations. Other businesses, however, will realize the serious risk that they face and undertake more thorough planning and incorporate flexibility-enhancing decisions throughout their operation. The most valuable part of the contingency-planning process is thinking through your options. The lessons from contingency planning flow through to the next step, building flexibility into the business. A company that learns in its contingency planning that it has limited options for cutting expenses may spend a year adding flexibility whenever it can, ending up with a business fairly able to cut expenses in a downturn.
The hardest thing for most people to accept is that things don’t always go as expected. In general, people have a tendency to cling to previously formed views and opinions long after evidence to the contrary has accumulated. The most successful managers are open to evidence of changing conditions. In order to make the shift from ignoring contrary evidence to acting on the new reality, several processes are helpful. First, religiously evaluate market conditions. Second, discuss the evidence with someone else. Finally, a monthly review of economic information builds familiarity with the data. Along an improving sales path, there will always be disappointing months. It takes some experience to look at sales or economic data and identify what is most likely a random blip and what is possibly the beginning of serious problems.
Managing in a recession occurs well before and well after the actual recession . The most important element is thinking ahead about how to incorporate flexibility into the business. Beyond that, management in the recession consists of a series of steps to protect cash. These are easy steps, moderate steps and survival mode, all somewhat more severe than the last. Hopefully, sales turn around before the company enters survival mode. There are also major differences in managing in a recession and managing in a boom, but the main point is to always think ahead and have a plan ready for whatever might happen.
Economic fluctuations are more varied in certain foreign countries, especially less-developed countries. They present a much larger challenge to the manager trying to monitor developments and assess risk. The set of actions that may be needed to deal with the risks are far wider than what a general manager in the US usually needs to be concerned with. One approach that managers may want to consider is diversifying their international operations. For sales-oriented companies, it’s easy enough to sell in a number of countries. Production-oriented companies should consider having offshore facilities in very different regions, such as one in Asia, one in Europe and one in America.
A region of the country will tend to move up and down with the national economy, but it will not be perfectly synchronized to the national economy. The business executive whose operations are contained in a distinct region of the country needs to monitor the national economy. This need cannot be ignored by large companies serving the national market. Although the CEO of a national restaurant chain doesn’t have to worry about how Peoria is doing, the regional manager for Peoria certainly should be focused on the local economy. Furthermore, corporate analysts assessing the quality of their managers need to consider the underlying economy in each of their regions. Basically, the broader national economy will affect a state’s economy, but the economic situation in a state will also be influenced by the national cycle for its most important industries and by its own internal growth cycle.
Businesses that are capital-intensive behave differently than less capital-intensive firms. The most capital-intensive firms tend to have other characteristics that make them prone to cycles, including long lead times on expansions and slow rates of depreciation. the extra elements that a capital-intensive business needs in its early warning system are straightforward: ways to measure new capacity coming on line in its industry. Usually estimates of new capital spending are available from industry sources. Experienced observers can see the beginnings of over investment, so long as they are not caught up in the current euphoria of favorable prices and the optimism of ever-growing prices. Managers in capital-intensive industries need to recognize their industry’s capital intensity. Recognition will influence a wide variety of business decisions. The capital-intensive industry is prone to wide swings in profitability, making awareness of the industry cycle critical.