Certain sectors of the country are currently experiencing downward pressure on gross margins. Whether it’s a temporary problem due to a price-aggressive new competitor or a permanent marketplace change, management must take action to maintain profitability and adequate cash flow.
To survive a gross margin downturn, use these strategies:
1) Determine the root cause and probable duration of the margin decline. Survival strategy for a permanent decline will differ significantly from a temporary decline. Temporary margin problems, even those that cause bottom-line losses can usually be survived for a few months. Permanent market changes, however, can never be “ridden out” and dictate that management make swift changes for long-term survival.
2) Analyze the impact of the margin decline by profit sector and adjust sales strategy accordingly. We strongly recommend that profit and loss statements be segregated by profit center. Estimate the impact of the new lower gross margins on each sector of your business. Then, concentrate sales and marketing effort on those sectors that will provide the largest profit after the margin decrease. For instance, during a time of low margins, consider expanding another sector or conducting an in-store sales promotion to boost margins.
For the least profitable sectors, determine the risk to not serving the customer during the time of low margins. Would no gross margin (and hence no costs) from that customer be better than losing money in the long run?
Ask yourself honestly if you will be able to compete more effectively for this customer’s business at a future date or whether it is unrealistic to think you will ever be able to price-compete again.
4) Cut Operating Expenses. When a company’s gross profit has been severely diminished due to uncontrollable market forces, its foolish to think that expenses can or should remain at the same level.
For most family businesses, personnel expense is their largest single cost. Rather than lay people off, put your existing workforce to better revenue-enhancing use. For instance, a driver could be moved to the wharehouse or a store clerk retrained into a sales support secretary.
When it comes to operating expenses, there is no better time than now to go through all expenses with a fine-tooth comb determining what can be cut back.
5) Diversify. Out of adversity always comes opportunity. If you experience a permanent downward shift in margins, there is no better time to consider adding new products and services to your offerings.
If you’ve always thought about a fast-food store, or a hardware store, or a sheep ranch or whatever, now is a great time to expand your horizons, jump into a new business and add to your bottom-line. You may find the margins so much better in a new business that you say to heck with your existing industry!
On the other hand, you may be able to enhance your profits with your same industry related add-ons like equipment sales. Any product or activity that produces a 1.5% profit (as a percentage of sales) or more to the bottom-line should be considered.
6) Develop strategic alliances and buying groups. If other business owners in your area are feeling the same pinch, it may be time to combine forces for a little clout, particularly when it is just one competitor that is ruining the marketplace with low pricing.
7) Reduce debt. Although it may be tempting to go get a new loan to fund losses during a time of margin crunch, more debt can spell financial suicide. Instead, work diligently at paying down debt to reduce the interest burden on your company.
8) Minimize receivables and inventory for maximum cash flow. When margins are fat, you can get away with lax management of receivables and inventory. When margins shrink, it’s vitally important to get on top of these two critical cash flow components. A $500,000 improvement in receivables and inventory management means about $50,000 more per year to the bottom-line in reduced interest expense, helping offset reduced gross margins.
A sudden downward shift in margins can be scary enough to keep even the savviest business owner awake at night. But with a little analysis, some soul searching, and swift action, family businesses can survive and even thrive when gross margins nose-dive.
