The Bank of England recently announced a UK recession is likely to take place this year, with the economy continuously shrinking, inflation set to hit 13%, and interest rates rising to 1.75%. The cost-of-living crisis is beginning to take hold, and the economic climate is ripe for stagflation. This hasn’t just got individuals worried, it understandably has businesses concerned too.
In this article, we look to understand the impact a UK recession will have on companies of all sizes, as well as the affect it will have on the national / global economy. We also define the term ‘stagflation’ and provide some useful actions your finance team can take to safeguard against recession.
How will the UK recession affect businesses?
Many smaller businesses lack the financial clout (and influence over their customers / suppliers) to cope with a recession. If they don’t have a substantial amount of money put aside for a rainy day, not only are they less equipped to deal with the challenges ahead, but they’re also less likely to be accepted for loans from banks and other lenders. As a result, these companies can be especially prone to bankruptcy during a recession.
Large companies aren’t completely recession-proof. Although, they do have more ways to counteract the decreased profitability they’re facing. They can perhaps cut costs by reducing spend on aspects such as marketing, product development, and recruitment. These actions may prevent bankruptcy, but there will still be a significant impact on stakeholders.
All businesses are likely to face some of the following issues during a recession:
Out of caution, customers lower their spending during tough economic times. This means that businesses may find it increasingly difficult to make the sales they would normally expect to complete. And their income is inevitably impacted.
Reduced cash flow
Not only are customers and business partners spending less when the economy is struggling, but lenders are less likely to provide streams of cash too (due to the associated risks). And it becomes more likely for customers to miss payments (or make late payments), which further reduces the amount of fluid cash flowing through the company.
The decline in profitability and cash flow makes its way onto the business’s official statements eventually, and the value of company stock may suffer as a result. When this happens shareholders can be disgruntled and may even question the performance of senior figures (or decide to leave).
Poor customer outcomes
During desperate moments, businesses may look to improve their bottom line by any means necessary. This could see them cutting corners during the production process, which leads to a lower quality of product. Or they may discard some of their resources, which means they no longer have the capacity to get products to customers on time.
How will a recession affect the country?
Recession is usually defined as two consecutive quarters of GDP decline. This may seem abstract, but there are real-world consequences for people and businesses. It could cause a significant rise in unemployment in the UK.
The cost of living can also spiral out of control as a result of inflation. Lenders may make their loan policies stricter, making it more difficult for people to fulfil their obligations. Property and other assets can sometimes lose value too, reducing the financial security individuals have. And unfortunately, a recession tends to impact young people and low-paid workers the most.
But what about the rest of the world? The global economy is deeply interconnected today, so if the UK is facing a recession, it probably means the economic climate isn’t looking great globally.
The UK entering a recession could tip other markets over the edge and vice versa, due to their close ties and mutual reliance. For the world economy to avoid recession, there would need to be some good fortune, as well as effective / timely policies. This is especially pertinent following the pandemic and ongoing political instability.
What is stagflation?
‘Stagflation’ is a combination of the terms ‘stagnation’ and ‘inflation’. It is used to describe moments in time in which there is simultaneously stagnated growth in the economy and inflated prices.
When individuals / companies are worried about costs rising perpetually, this can affect their behaviour because they feel they must be more careful financially. This can exacerbate the problem further though, as the economy shrinks due to lack of spend, and sellers must raise prices further to recoup their losses.
The term was first coined in the 1970s when such a situation occurred. Scholars of economic matters originally thought stagflation wasn’t possible, but it has continued to happen time and again since the word was first used.
Combating stagflation isn’t an easy feat either, due to the intertwined nature of slow growth and inflation. And there are worries among experts that conditions are now perfect for this to take place again, following the turbulence of the past few years.
How to prepare your finance team for a recession
Given the current climate, it’s more important than ever to prepare your finance team for economic slowdowns. Below are some actions your team can take to safeguard against recession:
When a recession takes hold, existing debt doesn’t simply disappear. You should create an plan to shrink this debt as soon as possible. Perhaps first tackle high interest loans, as these can quickly get out of hand. Once it has all been paid off it becomes easier to gain help from other creditors, as you will have a reliable reputation.
Introduce makeshift metrics
It’s always important for finance teams to report on company performance. But during times of crisis, it may be necessary to use new metrics at least temporarily. Or new targets may need to be introduced to help steady the ship. These targets should remain flexible so that changes can quickly be made as and when needed.
Diversify revenue stream
Many businesses (and their respective supply chains) are heavily interconnected. Your customers and partners will likely face their own problems in such a climate. Therefore, it’s important not to rely too much on a single customer for revenue, as it’s difficult to know what will happen going forward. Diversifying your revenue stream could involve expanding into a new market or finding a new use for an existing product.
Keep an eye on customers
It could be vital to check the performance and financial health of customers, as their success will influence your ability to generate income. It’s certainly a red flag if customers suddenly start missing multiple payment deadlines. However, action should really be taken before it gets to this stage.
Boost your efficiency
Keeping stock levels low helps to prevent cash being tied up in assets. If possible, you should look to reduce inventory costs without sacrificing the customer’s experience. This can be achieved by implementing an effective inventory control process that boosts efficiency.
Put money aside
Ideally, you should look to rely on your own savings during a recession where possible (rather than taking on further debt). It’s important to put money aside when times are good so that cash isn’t depleted when it comes to a crucial moment.
Open lines of credit
You should look for ways to boost your credit rating, so that your company is more of an attractive proposition to banks and other lenders. Lines of credit can then be utilised during an emergency. Although, you should look to avoid this avenue where possible if you’re looking to keep debt low.
Seek new opportunities
Always scan the market for transformational opportunities, as this kind of improvement could be the difference when conditions become tough. Also look to analyse your sales data from economic downturns in the past. This may help to highlight the best products to focus on when recession hits.
A key skill for business leaders is knowing what the business can and cannot live without. Those in finance are well positioned to analyse costs and determine which are necessary and which are not. However, cutting costs too much can be detrimental to revenue (if, for example, an essential activity is discarded).
When the business is transparent about the financial situation there will be less ambiguity and discontentment among employees. If a culture of innovation is continuously encouraged too, employees will likely buy into the company’s values and be invested in its ongoing success.
Navigating a recession using Cloud FMS
One of the best ways to safeguard your business (and equip your finance team) during turbulent times is to implement a Cloud-based financial management system. This unburdens the team and assists with the best practices mentioned above.
At Advanced, we provide an accounting solution called Advanced Financials. This software ensures all financial data is stored in a single location, providing easy access and eradicating duplication. With greater transparency across the team, it’s far easier to monitor business performance, customer behaviour, costs, debts, and opportunities.
Repetitive tasks become automated, providing a much-needed boost to efficiency. This gives employees extra time for value-adding work. Built-in dashboards and customisable reports are fuelled by high-quality data, allowing the team to accurately measure the metrics that really matter. Technology ultimately enables optimal performance, putting the business in the strongest possible position to survive a recession.
Are you concerned about the looming UK recession and the impact it will have on your business? If so, be sure to read more about our Cloud-based accounting software.