Seven reasons why a recession is the best time to start a business.
Seven reasons why a recession is the best time to start a business.
From hungry suppliers to committed employees, seven reasons why a recession is the best time to start a business (or to grow the one you already have)* * *
Start a company in a recession? It sounds like a crackpot idea. But just for the record, a recession is a great time to launch a business.
We don't mean it's an easy time to start up; no time is. Nor would we argue that just any business will fly in a downturn. Some don't have the characteristics needed to best exploit a stumbling economy. (See "A Recession-Opportunity Checklist," page 5). Others, thanks to tougher-than-usual scrutiny by the financial community, never collect the capital to get off the ground.
But if the early-stage hurdles are bigger, so are the benefits of clearing them. The rates at which new companies are started may be lower during recessions, but start-up success rates are higher.
Why? Some of the reasons are predictable. Key business resources are cheaper, so the typically resource-poor start-up can execute its business plan for, say, 60¢ on the dollar. Or, better, a recession start-up can go ahead and spend the dollar and in return get resources -- such as talent or prime real estate -- that wouldn't have been available at any price during a boom. The result: a better company than could have been hoped for in normal times.
What's more, the very pressures that make an economic contraction tough -- the rigor applied by financiers, the discrimination exercised by buyers -- force new companies to be smarter and to learn ways of operating that will make them stronger over the long haul. It's no wonder that recession start-ups are more likely to survive; a recession is a splendid -- if exacting -- teacher. It forces founders to be better businesspeople.
Or so we've learned in interviews with dozens of company builders who launched businesses under fire. Some started in 1981 and 1982, during the worst recession since World War II. Some founders plunged in when their regional economies were savaged -- in Denver, say, in 1984. Others are starting even now.
Not a single one regrets the timing. Instead, the founders claim, for a new business a downturn creates advantages not found in a robust economy. As their stories suggest, of all the circumstances under which to start a company, a recession is the best. Here's why:* * *
1. Real estate is cheap. A recession forces down the cost of commercial real estate, and the building binge of recent years has magnified that effect, leaving the largest glut of vacant commercial space in U.S. history. Landlords, anxious to deal, are offering free rent for up to a year and boosting allowances for such interior-design work as office build-outs and carpeting.
Even in Wisconsin, where the economy is relatively strong, entrepreneurs are finding generous terms. Consider the case of Bob Young. A medical-products marketing specialist, he spotted a technology that a former employer was tardy in bringing to market -- a device that monitors blood-gas values in hospital patients by means of a sensor, eliminating the need to extract blood to measure oxygen levels.
Young knew he could produce a state-of-the-art version of the device, and late last year he founded Sensor Devices, in Waukesha, Wis. A company there was failing, and Young secured 3,000 square feet of warehouse space and 2,100 square feet of office space to house his five employees. "We sublease it," he says -- $4.25 a square foot for the warehouse and $7.50 a square foot for the offices. He's almost embarrassed by his good fortune.
But in this buyer's market, start-ups can aim for more than just low prices. With many landlords desperate, founders can demand shorter leases, even month-to-month ones -- reducing the risk inherent in long-term commitments. What's more, downturns make better locations available, which will help greatly in the long run.
English immigrant Barry Meakings, for instance, started his company, MFlex Inc., in Dallas. MFlex takes waste rubber -- tires, car mats, shoe soles -- and grinds it into a granular substance. When mixed with a resin, it pours like concrete to make nonslip surfaces for pool decks, jogging tracks, and the like. In 1989, with his company growing, Meakings needed a larger building and access to a major highway to facilitate his trucking.
"Austin was about two years behind everybody else," he says, "We wanted to get in there before it started picking up." He found a 22,000-square-foot plant north of the city -- and just off an interstate. The building had originally cost $1.3 million, but Austin was so depressed Meakings was able to buy it for $420,000.* * *
2. Talent is available and affordable. Obviously, more people are looking for work in a recession, and as a rule they are less choosy about the salaries they find. Moreover, happy to have a job, employees are more reliable and more committed. There is less absenteeism and job hopping. In short, employees are lower-maintenance. Most start-ups face a mountain of challenges, and when a founder can worry less about the work force, it frees time and energy to focus on other pressing business problems. Also, with salaries and benefits flexible, compensation packages can be tailored to control up-front costs.
In January 1989, just as the "Massachusetts Miracle" was flaming out, Beth Marcus launched her company, Exos Inc., on the outskirts of Boston. With a doctorate in biomechanics and two engineering degrees from the Massachusetts Institute of Technology, she had left Arthur D. Little with the licensing rights for a measurement technology she had helped the consulting firm develop.
Marcus was convinced that she could use the technology to build a robotics device that had commercial potential, particularly in medical applications. Last January, after advertising in the newspaper for a mechanical engineer, she culled 12 qualified people from the more than 200 who applied.
Marcus found them more willing than before to consider equity as part of a compensation package. "Equity means more to them," she says. "The people I interviewed were saying, 'I realize I'm highly paid, but I'm really looking for a job where I can enjoy myself and contribute.' You wouldn't have heard that five years ago. They would have wanted all that and, by the way, a $10,000 increase, too."
Bob Young, the Sensor Devices president and CEO, was able to recruit a certain electro-optical engineer who was with a floundering company, something he might have been unable to do in better times. "Few companies in this industry have an electro-optical engineer as a project manager," says Young.
Start-ups seeking less skilled people find that a recession creates a recruiting bonanza. When Meakings of MFlex needs workers now, he calls Austin employers like 3M and Texas Instruments, which have had layoffs. "They have departments that will find employees for you," he marvels. "There's a big pool of good people."* * *
3. Bargains abound in capital equipment. The landscape is littered with the wreckage of companies going under. They are shedding everything from file folders to forklifts at fire-sale prices. Start-ups that buy smart can greatly reduce their equipment costs.
Seattle in 1981 was hardly the hot spot it is today, but Kevin Fortun, a restaurant manager, was convinced that eateries needed premium soup concentrates. He found a catering setup with a big kitchen and everything he needed: sinks, refrigerators, freezers -- the works.
"It was sitting empty, and the guy who owned it was really hurting," Fortun says. "I paid $30,000 for it and got $100,000 worth of equipment. I put down $5,000, with payments spread over three years and a balloon at the end. So I really got into this business for $5,000." Today Stockpot Soups does $10 million a year, selling on three continents.
In 1984, with Denver sliding into its worst recession ever, former aircraft engineer Jim Lynch decided to go into the tent business. Not the camping variety, but those colorful, logo-emblazoned, canopy-style numbers that corporations now set up at such festivals as the Super Bowl. A divorce had left Lynch with less than $10,000, not much for a manufacturing start-up, and lenders wouldn't touch him. "He had no money and a product without a proven market," recalls John Matthews, his would-be banker.
Determined, Lynch licensed his idea to Denver's M&M Specialties, a troubled manufacturer of exercise trampolines, and went to work there himself. When M&M failed -- Taiwan had radically undercut its prices -- it was banker Matthews who managed its liquidation. Lynch scraped together $12,000 -- half from an investor -- and went after the gear he'd need to open his own shop: industrial sewing machines, welding equipment, specialized drill presses.
"I got that stuff at 17¢ on the dollar," says Lynch, who now presides over KD Kanopy, a $3-million company. His operations chief, it's interesting to note, is none other than John Matthews.* * *
4. Suppliers, themselves hungry, will help. Keep in mind that in a recession, companies supplying start-ups are feeling the pinch themselves. With excess capacity, and anxious for sales, they are more flexible and aggressive in their pricing. By providing good terms and discounts, they extend a kind of supplier financing, cutting the cost of goods when new businesses most need a break.
In tough economic times, start-ups can forge strong relationships with suppliers. As with soldiers who have fought together, tight bonds are established that can contribute to a sense of commitment, even indebtedness, that continues into the recovery.
Before he joined the business faculty at James Madison University, Roger H. Ford started a restaurant and then a wine-and-spirits business, both in hard times. "With each company, I was able to get a terrific amount of trade credit," he says. "People were eager to sell and extend credit even though we had no track record. During a recession everybody else wants to make deals, too."
Indeed. At Exos, Beth Marcus has seen vendors "bend over backward" to make sales. "Our electrical engineer had every major vendor of oscilloscopes here inside his first week," she says. "They were falling all over each other. All we were buying was one scope for about $3,000, and a reconditioned unit at that." It's been the same with copiers and fax machines. "If the economy were booming, salespeople just wouldn't be in here, because we don't buy much. But now vendors pay more attention to us than they would otherwise for such a small client."
They also were willing to help the company maneuver through some tricky financial shoals last summer. With a few key orders delayed, Exos suffered a near-fatal cash-flow crunch. "We told the vendors -- and we have more than 100 -- what was going on," Marcus says. "We said that if they stuck with us, we'd be friends forever. They understood and really helped us through that period."
Don't rule out price breaks from professionals, either. Pat Ludwick and two partners launched Auto Critic in 1989 in Austin. Their idea was simple -- start a company that would do for used-car buyers what home inspectors do for home buyers. For $69, a mechanic would travel to the purchase site and perform a 90-point analysis, accompany the buyer on a test drive, and then write an unbiased report on the car's condition.
"No one wants to buy a lemon," says Ludwick, who was convinced he had a big hit on his hands, maybe even a national business. He was soon proved correct. Auto Critic went profitable in its fourth month, and before long Ludwick found himself franchising -- which meant legal work. With Austin's economy a disaster, there were lawyers on every corner with their hands out.
Not long before, they had charged $150 an hour. But Ludwick got lawyers to draft his franchise documentation for $35 an hour. "They really came down off their high horse," he says. "It was the same thing with printers, advertising, designers, artists. I had people throwing competitive rates at me left and right."
At Growing Healthy Inc., a frozen-baby-food start-up near Minneapolis, founder Julia Knight discovered that big vendors were particularly willing to help her in tight times. She was able to lease a $10,000 phone system from AT&T, for instance, avoiding an outright purchase. And accountants at Price Waterhouse agreed to delay their billings.
"They knew that if we failed to raise money, they would not get paid, but they were able to do that sort of thing," she says. "We went with the big guys because small companies are less likely to take a flier on a start-up. Our package-design firm is one of the largest in the country, and it worked out the same sort of deal. All of our suppliers did."* * *
5. Customers, looking to save, are more willing to try new products and services. With companies and consumers alike seeking savings, they are more willing than usual to reevaluate existing sales arrangements. In boom times few companies want to upset supplier relationships just to save a little money. Start-ups are lucky to even get in the door. But when the pressure is on to cut costs they merit a second look.
"People are searching for ways to save money," says electrical engineer Lorrin Gale, who started Augment Systems last July. "They could very well look at start-ups and their products in a downturn, whereas otherwise they might overlook them and stay with their traditional vendors. So a strong argument can be made that a start-up with a cheaper and better product can do very well in a down economy."
Augment, of Bedford, Mass., provides fiber-optic bus links for computers in engineering manufacturing settings. And Gale says fiber is cheaper than copper if buyers account for speed and distance.
Saving customers money, solving a problem, adding value -- those are key to a successful start in a recession. It's easy to see that this is a bad time to open a luxury-car dealership, for instance. New cars don't sell well in a downturn, but used cars do.
That's why something like Auto Critic is so exquisitely timed. For a low fee, its customers save $600 on average, because Auto Critic's analysis puts them in a better bargaining position. Ludwick has already sold more than 30 franchise territories, some as distant as Tacoma, Wash., and is selling an additional three or four a month.
Kevin Fortun credits much of Stockpot Soups' success to the same pressures. Making soups from scratch is tricky and labor-intensive. "Restaurants were looking for ways to save money, and one way is to save labor, because labor in a restaurant will kill you," he says. By using Stockpot products -- true homemade soups in the convenience of a package, for which all you do is add milk or water -- restaurants were able to cut labor costs and also get consistent results.
Walt Mitchell is equally well positioned for today's economy. In April 1990, just as the Northeast's economy was crashing, he launched ZoneSkip, in Paramus, N.J. ZoneSkip consolidates parcels from small shippers, trucks them long distance, then drops them for local UPS delivery -- saving customers as much as 25% of the cost of sending each piece individually.
In a healthy economy shippers might shun a new transporter and stay with a proven hauler. But in this downturn, demand for ZoneSkip's services is so strong that the company is on target for first-year sales of $25 million. "Saving people money works well in a healthy economy," Mitchell says. "It works tremendously well in a recession."* * *
6. Your bankers will see you now. The banks are spooked right now, yes, but they have to make loans. That's what banking is all about. And therein lies a silver lining for some new ventures.
"Speaking as a bank director, I know that banks are eager to lend money," says Roger Ford, the James Madison University professor and director of the school's Center for Entrepreneurship. The trouble is, in a downturn, they don't have anybody to make loans to. With their usual customers hunkered down, lending officers are looking for things to do. "A small-business-loan request might get more serious consideration now than it would have two years ago," Ford adds, "when banks were basically saying, Who needs you?"
For instance, banks don't like the paperwork and red tape that come with the Small Business Administration's loan-guarantee program. But Faye Coppin-Rock found her bankers glad to process the forms for the $100,000 SBA loan that financed Faye's 1, an upscale apparel retailer for executive women. It opened in February in Mequon, Wis., an affluent Milwaukee suburb.
A specialty retail store in this economy? And the bank went for it? Sure. The idea for the business grew out of a personal frustration. "This area is beer and bratwurst and bowling -- there is no fashion consciousness here," says Coppin-Rock, formerly an advertising executive. Finding no place in Milwaukee that carried the kind of "businesslike but creative" clothing she wanted, she shopped on vacations and business trips. She figured a lot of local women did the same.
"These two young bankers at First Wisconsin Mequon immediately latched on to this idea," she says. "They said it was terrific -- their own wives complained about shopping in Milwaukee. They took my business plan and just ran with it. It took them 20 or 30 hours of their own time to put the thing together. They sped it through the SBA process and kept me posted the whole time."
The bankers also liked the clarity of her marketing strategy. "It's very important these days to know who your market is, and cater to them," she says. "Mine is senior-management women who have flexibility in the way they dress. I can see the business built on 150 to 200 women who build a relationship with it. If they can't come to me, I can go to their boardrooms, and over lunch we try on clothes."* * *
7. You'll develop a culture of frugality. Dave Archer remembers the early days of Pioneer Pipe Inc. It was 1981 in Marietta, Ohio. "We called it a depression here," he says. "It was hard to go to a lender and say I wanted to start a pipe-fitting construction business when everyone around me was going broke."
So he bootstrapped, recession-style. First he raised $150,000, mortgaging his house and farms. Then he started knocking on some big doors along the Ohio River -- Shell Oil, Union Carbide. "We were a company without a name, in a field where competitors who had been at it for 75 years were killing each other in the marketplace," he says.
He'd get one job and leverage that to get another. "Now people seek us out, but until we got that first job, they didn't know if we were working out of a barn or a pup tent," he says. "It was tough."
But Archer feels lucky he launched when he did. "If we had started in fat times, it would have had a dramatic effect on how we ran the business," he says. In 1981 Archer saw too many businesses get hurt when the region's economy collapsed. "They were living high off the hog when the bottom dropped out."
That left an impression. Pioneer Pipe is now an $18-million company, but Archer is sitting at the same desk, in the same chair, as when he started. His office "still looks like something a rat concocted." There are no big office parties or seminars in Florida. "This is a shirtsleeve operation," he says. "People are elbow to elbow."
Pioneer Pipe has made money from year one, but Archer operates as though the wolf were always at the door, and that's typical. "The culture that a company starts with is a long-lasting phenomenon," observes Marc Dollinger, a business professor at Indiana University. "There is an imprinting that goes on." Adds Jon P. Goodman, director of The Entrepreneurship Program at the University of Southern California: "The really healthy businesses are the ones you see in the good times that started in the bad. It's that mentality. You never forget the pennies you pinched and why you had to do it. That really communicates itself into the company's culture."
When Jim Lynch started KD Kanopy, in 1984, for example, he sent products COD because he couldn't afford to extend credit. He still does. "People tell us they have good credit ratings," he says. "We say we send COD, not because we don't trust them but because we don't want to be their banker. They accept that." And Kevin Fortun still runs a tight ship at Stockpot Soups. "We're very profitable now, but we scrutinize everything," he says. "It relates back to the old days. I don't ever want to be back in that position. It never leaves you."
Inevitably, good times will return. When they do, start-ups that have seized on these circumstances will be primed for strong and profitable growth. Weathering that first recession will have tempered their outlook and inspired them to build their businesses on solid foundations; the memories of those early storms will serve as reminders that hard times are always somewhere down the road.
Meanwhile, start-ups can exploit the relative calm of a recession's business climate to help them through the break-in phase. They need time to work out the usual bugs that appear in policies, production, and services. It's a chance for smart founders to marshal the advantages listed above -- to train the troops and square away the logistics, in effect, before the action begins. "You want to get in and be poised in your industry with some distinctive advantage when the economy takes off," says Vanderbilt University assistant professor of management Bill Lindsley. "You're in much better shape than you would be by waiting until it does."
A RECESSION-OPPORTUNITY CHECKLIST
If this describes your company, act now
Whether you're just starting up or have a going concern, a downturn can be a time not just to survive but to reposition for the eventual recovery, or even to grow. The companies best able to exploit a recession are --
* Labor- or talent-intensive. With talent cheap and available, companies can elevate work-force caliber. This is true for businesses that need lots of workers (restaurants, production plants) as well as those requiring engineers, who might be more willing to accept creative forms of pay.
* Cash-based. Accounts receivable are tough to collect when customers are suffering; the result can be cash-flow turmoil. Businesses taking payment in cash enjoy the advantage.
* Bootstrappable. Capital from banks and investors is harder to come by. A business that can grow slowly and generate capital internally from earnings has better prospects -- and also avoids damage from nervous bankers calling loans or from investors demanding fast returns.
* Reliant on space or location. There's no better time to upgrade a business's visibility or meet expansion needs. Discount prices -- and flexible terms -- are available.
* Selling nondiscretionary products. Low consumer confidence and tightfisted businesses won't wreck companies whose offerings are needed in both good times and bad.
* Capital-equipment-intensive. Business liquidations surge, making available everything from bulldozers to desks -- at superb savings.
* Saving money for customers. Products and services that cut costs or add value for consumers or businesses find strong demand. Companies that provide them, through innovation or efficiency, stand to capture market share.
* Geographically diverse. Companies selling strictly to a weak market face trouble. The most recession-resilient businesses spread risk by selling nationally. Exports add even more protection.
'ARE YOU CRAZY?'
For would-be founders in a downturn, encouragement is gone
Weighing against all the benefits, there's at least one downside to launching a business in a recession: the psychic burden. It takes more nerve than usual to start a company when everyone around you says you're out of your mind.
That lack of support is not something you forget. It's been a decade, but Kevin Fortun still recalls the outpouring of pessimism when he left a steady job to start Stockpot Soups. His idea was to provide restaurants with premium soup concentrates to help them cut labor costs and control soup consistency. The environment: the downtrodden Seattle of 1981.
"Everybody told me I was crazy to open up something at that point in time, that it was especially crazy to go into the soup business because it was unproven," he says. "Everybody told me what I couldn't do." Even his old boss was telling people Fortun would be back in six months.
"I had second thoughts myself," Fortun adds, "but you can't let yourself think that way. If you do, it will take over and you won't make it. I believed in myself and the numbers. It was well planned out before I went into it."
Denver was nearing rock bottom in 1984, when former aircraft engineer Jim Lynch established KD Kanopy to make party tents. His own brother looked at what Lynch was doing and said he was crazy. "But even in a recession you don't have to be doing milk and butter to survive," says Lynch. "There will always be someplace to market your product if it's any good. You can't listen to all the people telling you that you can't do something unless they can give you some really good reasons."
Nobody could. And the same people who were telling Lynch he was crazy are now the ones asking him how he did it.