Magazine

Dodging the Bullet


Hardly a day goes by without a new piece of grim economic news. One corporate giant after another warns of earnings shortfalls, often followed by plans to dismiss thousands of workers. Inventories remain high, capital spending is weak, and many economists warn of a sustained economic swoon. It's enough to send an entrepreneur into a deep depression.

Well, put away the Prozac. While a downturn is never a good thing, there's plenty of evidence that small companies could be spared much of the trauma this time around, especially compared with big business.

True, slowing sales are a problem for all companies regardless of size, and small ones can't hold out indefinitely. But many of the problems that plagued entrepreneurs during the boom may have saved them from even worse pain during this downturn.

Bloated payrolls? Not here. Faced with low unemployment and ever-escalating wages during the boom years, many small companies had no choice but to leave job openings unfilled. As a result, "small businesses are running with much leaner payrolls than they have in the past," says Martin A. Regalia, chief economist at the U.S. Chamber of Commerce.

When the economy was roaring, that was a source of countless headaches. Last year at this time, Jody Haas, chairman of Des Plaines (Ill.) recruiting agency Resource Technology Associates Inc., was desperate to hire. But there were no full-timers available. Thank goodness, because in January, business almost stopped. "If we had hired, we'd be drowning," Haas says. Instead, she has eliminated 15 temps and mandated four-day workweeks for the 40 full-timers who remain. While no one is thrilled about a forced 20% pay cut, the move has been far less costly and disruptive than mass layoffs.

If small businesses didn't over-hire, neither did they produce warehouses of inventory that now must be worked off. A mere net 1% of companies reported higher inventories in March, says the National Federation of Independent Business, virtually unchanged since January, suggesting that small companies are being spared Corporate America's inventory adjustment.

STRONG CASH FLOW. The same is true of the shocks caused by the slide in the financial markets. Aside from a tiny number of technology startups, few entrepreneurs received a dime of venture capital, and even fewer financed their growth through public stock offerings. Many small-biz expansions were funded by strong cash flows. George E. Johnson, CEO of Cosmi Corp., a Rancho Dominguez (Calif.) software publisher, spent the past several years resisting offers from venture capitalists and investment bankers eager to take his company public. Instead, over the past five years, Cosmi tripled its revenues to $25 million, financing the growth entirely through cash flow while modestly increasing its workforce from 50 to 100. "We are lean and mean," Johnson says.

Johnson even balks at bank loans. But if he asked for one, he would stand a decent chance of getting it. In the NFIB's March survey, only a net 3% of small companies said loans were harder to obtain. "Credit for small business is not drying up as much as it is for bigger and midsize firms," says Robert E. Berney, chief economist for the Small Business Administration's Office of Advocacy. Indeed, in the Federal Reserve's March survey of senior loan officers, 43% of respondents reported tightening loan standards for small businesses, compared with 52% for large companies.

Sure, it's encouraging--but not a reason to celebrate. A slump is a slump, and there are signs of trouble: Lenders are getting stingier, and the NFIB's March survey reports that first-quarter profits and sales fell to levels not seen since the early 1990s.

Perhaps the darkest cloud on the horizon is consumer confidence. If small companies have so far been spared, it's because consumers have continued to buy. That may be changing. In March, retail sales fell by 0.2%. And in April, the University of Michigan's consumer sentiment index sank to its lowest level in seven years. "If consumption goes down, more small businesses will go bankrupt than large ones," says Wesley W. Basel, an economist with Economy.com Inc., a research firm in West Chester, Pa. "They have the fewest resources to weather the recession."

SMALL AND NIMBLE. That has certainly been the case in past slowdowns. But other economists remain optimistic. In the fourth quarter of 2000, for example, as corporate profits were starting to slide, small-business profits were still growing, albeit at a slow 4.7%, says John E. Puchalla, an economist at Moody's Investors Service. Puchalla says that the trend will continue, largely because small companies didn't overreach and won't have to restructure. Small businesses are less exposed to fluctuations in global markets, where a strong dollar is cutting into revenues.

Small-business employment also could hold up, says David L. Birch, an economist and the president of Cognetics Inc., a research firm in Cambridge, Mass. Since the 1980s, Cognetics has tracked employment rates at 10 million businesses nationwide. During the recessions of the early 1980s and 1990s, Birch says, small businesses posted modest job growth, while big-business employment declined. "Small businesses slow down, but they don't drop," he says. The reason: "They have the ability to adapt faster."

Will entrepreneurs be as nimble this time around? Birch thinks so. Small companies may face a series of tremors, but there's a good chance they'll avoid the earthquake. By Janin Friend


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