Franz Lohrke, the Lowder Eminent Scholar and Professor of Management in Auburn University’s Harbert College of Business, says opportunities exist for established businesses during economic downturns and he offers advice for those thinking about starting a business during this uncertain time.
Is this a good, bad or ugly time to start a new business?
Entrepreneurs always face high uncertainty when launching a business, and the current economic situation represents one of the most uncertain in recent history. So, should someone, who has a promising business idea, launch his or her business now? As with many questions, the answer is often, “It depends.”
On one hand, entrepreneurs always take calculated risks and, if they successfully tap into an important, enduring customer need, they can be extremely successful. Economic downturns actually sometimes offer advantages because entrepreneurs may be able to find good employees looking for a better job and landlords willing to negotiate lower rents. In fact, some successful businesses, like Hewlett Packard and Uber, were launched during economic downturns. These crises often also inspire innovations that might prove to be valuable business opportunities.
On the other hand, many potential customers are watching their spending more carefully because of high economic uncertainty, and different U.S. states are reopening on different schedules. Even during a strong economy, startups need support from several sources, including customers willing to spend money, employees ready to work, and, in many cases, organizations prepared to fund the business.
During the pandemic, these challenges have become magnified. For example, even some businesses that received Payroll Protection Plan (PPP) loans have reported difficulties luring their employees back to work.
What financial assistance is available for established businesses? Startups?
For established businesses, the federal government has provided two PPP rounds to help companies weather the economic storm. The program, however, has experienced some problems helping some small businesses, and the government is currently revising the program.
Even in a strong economy, both established and startup businesses need to use creative financing, and this becomes even more important during an economic downturn. Most importantly, survival and growth depend on minimizing cash outflows and maximizing cash inflows. To minimize outflows, entrepreneurs need to avoid buying what they can lease, borrow or obtain for free, as well as diligently search for ways to reduce, postpone or even avoid paying out cash, like bartering for supplies and services. To maximize inflows, they can find imaginative ways to bring additional cash into the business, such as when restaurants offer catering or retailers sell discounted gift certificates. Given the uncertain timing on economic recovery, holding on to as much cash for as long as possible is going to be critical for survival.
If someone has a great idea for a business and has done the necessary research, should he or she wait for the economy to recover before launching?
Even as states reopen their economies, aspiring entrepreneurs need to recognize things might remain difficult for a while when starting a new business. For example, entrepreneurs often receive feedback on and enlist support for their startups by networking with other business people. Given current restrictions on crowds, however, in-person meetups for entrepreneurially focused events may be scarce for the foreseeable future. On the upside, although a National Federation of Independent Businesses (NFIB) survey showed small business optimism dropped in April, business owners expect the economy to improve over the next six months.
Overall, whether to launch or wait depends heavily on two things. First, an aspiring entrepreneur should have enough money in the bank to cover business expenses for several months, given that sales probably won’t be high enough to pay rent, payroll and other critical expenses. Second, the entrepreneur needs to decide if the business makes sense to launch right now. For example, starting a home-based business that provides online services to people or businesses, which allows the entrepreneur to minimize costs and serve customers remotely, might be a good opportunity even in an uncertain economy. Opening an event-management company that requires signing a long-term lease and runs counter to social distancing regulations, however, might be a business idea to postpone until things improve.
What is the best advice for entrepreneurs during this time?
Launching a successful startup is always challenging, but some key success factors always exist. Four that can become even more important during these difficult times include the following:
Base the business on sustainable demand. Successful entrepreneurs need to “find a need and fill it” (FANAFI). A crisis generates temporary demand for some products or services, but for a long-term business opportunity, the startup will have to satisfy an enduring customer need.
Minimize fixed costs. The sales level where a business breaks even and starts to make a profit rises proportionally to the amount it spends on fixed costs (like rent and management salaries). So, finding ways to minimize fixed costs, such as setting up the business at home, in a co-working space or at a business incubator, provides a critical path to profitability for a new business.
Prepare to pivot. Steve Blank, a successful Silicon Valley entrepreneur, has often said, “No business plan survives first contact with customers.” In other words, no matter how much market research entrepreneurs conduct, they rarely ever hit the bull’s eye in terms of exactly what customers want. Thus, being willing to tweak a startup’s product or service is important.
Understand the economics of a business. Before launching a new business, entrepreneurs need to know, in depth, how the business will generate sales and which expenses are most critical. For example, successful small restaurants earn less than two cents on every dollar of sales, so any wasted food or other seemingly minor expenses can mean the difference between making and losing money. Adding additional space or restricting in-house capacity to meet current social distancing rules to this equation, however, makes running a profitable restaurant even more difficult right now.
About Franz Lohrke:
Franz T. Lohrke is the Lowder Eminent Scholar and Professor of Management in Auburn University’s Harbert College of Business. He has assisted aspiring entrepreneurs for more than 20 years, presented papers about entrepreneurship at national and international conferences and published articles in top academic journals. He has also co-edited two books on entrepreneurship theory. Prior to his academic career, Lohrke worked in the hospitality industry, including small and start-up restaurants, as well as banquet services and restaurant management at Walt Disney’s EPCOT theme park.