Recession Planning 101

BY MITCH KLINGHER

It is now time for all businesses to make the tough decisions that could impact their futures greatly. There are many hazards and some potential opportunities that a significant downturn in the economy present to small and medium-sized businesses, and the decisions that you make now can give you a big boost going forward.

The following are a couple of the basic principles associated with recession planning: • Cash is king. Notwithstanding all that the Federal Reserve is doing to inject funds into the banking system, liquidity is always the biggest danger in a recession. Operating losses will hurt you in the long run, but the inability to meet a payroll or obtain supply of key materials will put you out of business immediately. • Bad debts due to bankruptcies and other insolvency proceedings are a triple disaster. • Consider right-sizing your company under the cover of a recession. • Recessions are usually a bargain hunter’s delight. • You should be firming up your lending relationships and borrowing money that you need before the credit markets are closed for business. • When the economy is bad, it’s usually a good move to show some love to your key suppliers and employees. • Recessions are a time for serious introspection, updating strategic objectives, reviewing tactical and operating plans, and updating organizational goals and objectives. • And for those of you with strong balance sheets and minimal or no operating losses, this could be the best

time to go on offense: new equipment, new marketing programs, new lines of business, and anything else that was on your wish list.

Let’s take a little deeper dive into some of these bullet points.

Building Up Cash Reserves

Having a lot of liquidity when those around you are starved for cash can give you an advantage in many ways. Conversely, not having enough cash during a serious downturn can be fatal to your business. My advice is to build up your cash reserves as soon as possible, while you are still able to do it. Current conditions have given most converters some new ways to build up cash: • Recent legislation allows you to postpone paying the employer share of FICA tax until January with no penalty, so for every $100,000 of payroll, you can delay paying $7,650 in payroll taxes. Depending on the size of your company, this can be a pretty tidy sum. • The Federal Reserve has instructed banks to agree to forbear collecting debt payments for a few months, which can also be a significant amount of money. • Consider drawing down on credit lines now, because it may be difficult to draw down on them a few months from now. • Talk to venders about extending the term for early payment discounts. • Recent tax legislation also allows you to defer the payment of certain retirement obligations.

The ‘Triple Threat’ of Bad Debts

1. First, you will lose the balance that you are carrying in accounts receivable. 2. It is likely that whatever inventory you have on the floor for that customer will be worthless. 3. You may be the subject of a

“preference” action, whereby you will be sued under the authority of the bankruptcy court for all of the payments that you received from the debtor for the 90 days prior to their filing for bankruptcy. You will have to defend against these actions, which means hiring an attorney and making sure that you have defenses against these actions. I can tell from experience as a former trustee in a bankruptcy case, most of you won’t be able to

defend your actions, because the payment of old invoices—outside of normal terms—in and of itself is a preferential payment. That is because not all of the other creditors received payments against their old invoices. This is the time to start managing this process and to make sure that the bills these customers pay are either within normal terms or on a cash-on-delivery basis.

Because of this “triple threat,” you all need to be very careful with how you make credit decisions, manage inventory levels, and apply cash received from customers on account of older invoices.

Right-Size Your Company Now

Many of you have accumulated employees over the years who have become less than effective, but you have kept them on out of a sense of loyalty or fear of some sort of wrongful termination action. You need to be careful here and check with your HR professionals and possibly outside employment counsel, but reorganizing your business in a recession by changing head counts, eliminating positions, and revamping departments during a recession is hard for anyone to challenge.

Bargain Hunting

Assuming that you have built up sufficient cash reserves, there should be a lot of situations out there in which the offer of a quick cash payment for inventory, supplies, equipment, etc. will get you a substantially better deal, and during recessionary times, you may find a lot of distressed situations that you can benefit from.

Lending Relationships

For the past few weeks, most of my clients and friends in the converting business have been focused on obtaining Paycheck Protection loans under the newly enacted Small Business Administration program. One interesting takeaway from this process, for me, has been that many of you are simply with the wrong banks. Some of you bank with very small local banks that don’t have the proper resources for companies of your size. Many of you are with very large national and international banks that claim that they cater to the middle market, but they are not nearly as interested in your situation as they should be. This is a time to evaluate these types of relationships and either shore them up or change them.

This is also the time to evaluate whether your borrowings are structured correctly. A lot of converters feel that bank debt on their balance sheet is a negative, and they avoid it as much as possible. Many others have way too much short-term debt with floating interest rates and short-term maturity dates. This must all be reevaluated as soon as possible to make sure that you minimize the risk of a general tightening in bank credit and maximize the opportunities that may be available during a significant business downturn.

Show Some Love

This is the time to meet with all of your key people—vendors, customers, employees, consultants, etc. Find out how they are doing and what you can do to help them. When times are tough, people will remember a kind word, or more importantly a kind deed, from a friend. If a supplier is hurting, offer to speed up cash payments. If employees are in trouble, offer advances on year-end bonuses or loans, and try to help them work out their problems. Recession planning generally involves cutting everything but the kitchen sink, but remembering the human side of this equation will often be more beneficial in the long run.

Time to Update Your Planning

Strategic plans need to be updated as soon as possible in view of significantly changing times. Are there initiatives that need to be stopped or started? Operational goals need to be reset in light of the “new normal.” You need to get your key people together and prepare budgets based upon how your company looks under various scenarios with smaller sales levels and possibly reduced margins. Yes, you will likely have to cut costs, but you need to reengineer your operation in an orderly fashion with minimum panic. Get this process started immediately.

Don’t Just Play Defense

Once you have your planning done, have right-sized your business, and have straightened out your balance sheet, banking, and other key relationships, it’s time to have some fun. If you can keep your wits about you while everyone else is panicking, you will come out of the recession much stronger than when you entered it. Weaker competitors may need an exit strategy, equipment vendors may have equipment that they have taken deposits on that can no longer be sold to the customer, and talented people may be looking for a better situation. If you are strong and have a good plan going into this, you may be able to improve your overall situation greatly.

The best thing that happened to small and medium-sized businesses was the recession in 2008. Those of you who survived came out of it much stronger, because you were able to cut all the fat out of your operations. The looming recession can also be a great opportunity to those of you who plan for it properly. Safeguard your key assets, and get your business planning into high gear. Most of all, stay safe during these challenging times.

Mitch Klingher is a partner at Klingher Nadler LLP. He can be reached at 201-731-3025 or mitch@ klinghernadler.com.