Dealing with the recession as a small operator

Jonathan Perrin questions Simon Glyn, Client Partner at Vantis Business Recovery Services on the impact of an imminent recession on smaller operators in the hospitality and leisure sector.

JP: On 24th October the banks warned that business failures are inevitable as we officially enter a recession, particularly in the small business sector. Are commentators, such as Lord Mandelson, right to suggest that banks should be more understanding of the plight of small businesses?

SG: In any climate, banks lend to small and medium sized enterprises (SME’s) based on three criteria:
The ability of management to develop a strategy, run a robust business plan and to stay close to their forecasts
The security given by the business and sometimes owners’ guarantees to the bank which will impact the pricing of risk
The ability of the business to pay interest to the bank.
The emphasis different banks place on each of these criteria varies depending on the strategic position of the bank in question and the overall state of the economy. Unfortunately the hospitality and leisure sector is likely to be hit hard. However, even in a downturn, if a business can demonstrate ability against all three, it is likely it will receive ongoing funding. The majority of banks will demonstrate understanding and generally support smaller businesses. The proviso to this approach is that the management team is committed to making changes and difficult decisions in a timely fashion. Too often either “denial” or a “do nothing” mentality sets in when considering the company’s future. Management must prepare and analyse rolling forecasts and cash flows in order to anticipate what actions must be taken if the business starts to underperform. If the business is able to service its debt, even on an interest only basis, and the management team is tenacious and willing to either change the operations of the business, or realise when and how it needs to seek the correct type of professional advice, it will find most banks supportive.

JP: What actions can owner managers take if the business gets into difficulty?

SG: The first step is to cut costs in a timely fashion. This may mean redundancies, and if so, it is far better to make these difficult decisions quickly. If a business is allowed to drift in an economy that is changing shape almost daily, it will soon find itself unable to service key fixed costs such as salaries and rent. Make redundancies once, cutting deeply, and then ensure those who are retained are made to feel comfortable.
Secondly, be absolutely transparent with funders. There is a misconception that if a business owner expresses concern about performance to a bank early on, it will be closed down. This isn’t the case. Banks have dedicated business support departments trained to assist companies in difficulty. The single, most important piece of advice is to manage cash flow. Look at terms and conditions with customers and suppliers to see whether payment terms can be renegotiated. By tightly managing creditors and debtors, it should remove the need to approach your funder with a new money request, or at least buy the management team some much needed time to address the underperforming areas of the business. It is important to remember that “success” during a recession may look very different than in a “benign” economy. Over the past 10 years, while the economy has been growing, success might have been defined by achieving a certain profit margin or “ebitda”. Over the next 12- 24 months, success may be breaking even, or making a small loss, but achieving survival.

JP: Is it still possible for struggling businesses to secure funding?

SG: If it is a case of securing new funding, then provided a business can demonstrate performance against the three key lending criteria, there are still institutions willing to lend. In these circumstances, it is worth considering alternative forms of finance, such as asset based lending or factoring, as banks are sometimes more willing to lend against the shape of a company’s balance sheet. However, if it is a case of seeking additional funding, businesses may struggle. Without absolute assurance of the viability of the business and its ability to service additional debt, banks are very reluctant to lend more money.

JP: If a company is forced down an insolvency route, does it always mean the end of the road?

SG: Not necessarily. A sale of the business is often the desired outcome when a company enters a formal insolvency procedure called Administration. This could be a trade sale or a sale to the existing management team. However, if the business is being sold back to the management team, the insolvency practitioner must be satisfied that market value is being achieved.