Three ways to prepare your startup for an economic downturn

August 2, 2017

It is news to no one that the economy is healthy right now. At 4.3%, the US unemployment rate is now lower than it has been since 2001, when I was nine years old. The current economic expansion, while slow, has proved lengthy and is now the third longest in modern history- in just a few years it will be the longest ever. Startups don't talk about "the economy" much in times like this, because it is merely a gentle tailwind that is far easier to ignore than a headwind (just ask a runner!). 

 

I initially had a first paragraph written with a description of the pros/cons of the economic outlook, but deleted it because this piece isn't about prognostication or my overall view of the economy. Rather, it is a reminder that we're in "the best of times," and that, while predicting when they end is very difficult, historically the best of times have rarely persisted too long. Scan the chart below for time periods where the unemployment rate stayed steady for more than a few years- they don't exist, and unemployment itself has rarely been lower.  

What this means for start-ups is simple: if you're the founder of an early stage company today, you're growing your business at the peak of an almost unprecedented economic expansion, and the odds are pretty high that before you "exit," in whatever form that takes, winter will come for the economy. That makes now a great time to prepare for the worst of times, even if you have no idea when they'll be. Here's how to start:

 

1) Get a realistic sense of how variable demand for your product will be with the economic cycle.

 

There are lots of variables that go into this:

 

a. The smaller your customers are, the more likely they are to struggle financially and leave you.

b. The more "nice to have" your product is, the more likely it is to be cut as a "first resort."

c. If your customer base is especially tied to the cycle because they need to fundraise (whether they are low-income consumers needing auto loans or startups needing capital), they are more likely to cut back when times are tough.

d. If your revenue is recurring, it is generally safer than if it is non-recurring, but expect churn will go up. 

 

Be careful about assuming that your product "provides so much value our customers won't leave even in a downturn" or that "we're so small and just gaining market share, this shouldn't effect us." Either or both may be true, but it is the easier belief to hold and you are best off challenging it.

 

2) Plan to play defense.

 

During downturns, things get strange. Funding dries up, investors become more skeptical and losses that would be waved away in easier times become suddenly intolerable. Have a plan for how to manage costs if getting funded becomes far more difficult- even if it is just a high level sketch, planning how to batten down the hatches now will help you act rationally when the going gets tougher. At the same time, think about how to handle clients who stop spending or ask to cancel due to economic circumstances- in some cases it may make sense to help them out with a short-term discount or more flexible payment terms if you can manage to. 

 

3) Plan to play offense.

 

Downturns aren't all bad for startups. Legacy companies may do mass layoffs, opening up huge pools of potential talent (both laid-off employees and newly disgruntled top talent) and further weakening their market position. Competitors may be forced to act more rationally. Some customers will be extra motivated by ways to use technology to save costs. Every situation is different, so take stock of yours and write something down. For example, it may be that a recession is a great time for you to raise more capital from committed investors and turn the screws on competition that isn't as fortunate. 

 

All in, the mantra is simple: plan ahead. A few hours of thinking about how your company might best respond to a recession could pay huge dividends when one finally arrives and you are able to decisively act with the benefit of forethought not colored by the emotions that downturns tend to bring.

 

 

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