The Great Recession and the COVID-19 pandemic have taught us valuable lessons that are important for companies to take to heart. Recessions aren’t unique and are all typically characterized by capital restraints, and tough labor markets.
While I’m not a master of macroeconomics like our friends at McKinsey, I do understand that my skill sets are aligned with their findings in what successful companies did to thrive in past recessions.
Improving profit margin beats improving revenue. Analysis of the past recession shows that companies that focused on improving their profit margins grew faster than their peers who focused on growth.
What McKinsey calls “optionality in the balance sheet” can be simplified to capital liquidity. Essentially, it stems from the first finding. A combination of increasing your margins, building your working capital, and decreasing your debt allows companies to be more flexible and respond faster to opportunities.
Being able to focus on growth and profit margins has an exponential effect. Increasing our margins and working capital gives us the flexibility to increase growth by exercising our options faster than the competition with our improved liquidity.
Companies that improved their margins AND were able to grow revenues experienced a “1+1=3” effect. This isn’t terribly hard to wrap our heads around, as this strategy tends to be successful no matter the economic climate. However, in tough times, it boosted companies ahead of their peers even more.
This McKinsey graph illustrates the point extremely well. Companies that improved margins outperformed companies that just focused on growth. But, companies that were able to capture market share while improving efficiency got an even greater boost to performance.
It would be nice if every company could afford to hire McKinsey, Bain, or BCG to come in and help us navigate the storm, but we don’t have time to kid ourselves. However, we can use their free resources and hire the support we can afford to set ourselves up for success and capitalize on opportunities before our competitors.
We have the data, but the big question is what do we do next? All three takeaways of increasing margins, capital liquidity, and exercising our liquidity to capitalize on growth opportunities can be accomplished in a variety of ways. How you go about it will depend on how big you can build your war chest and the nature of your industry.
Improving margins for eCommerce retailers can involve more efficient inventory management and converting more traffic. Manufacturers can improve their payment terms, and tech companies can investigate ways to license and monetize intellectual property.
The importance and main takeaway of improving margins in tough economic times is strengthening your balance sheet to withstand strong economic headwinds, and building capital to allow for decisive action when opportunities arise. The studies showed that companies who acted before their peers experienced higher returns than those who waited or weren’t able to move as fast.
Stay tuned for Part 2 where we’ll discuss specific recommendations for staying on the ball with your audience and making sure you're providing measurable results.