Since the beginning of the new millennium, the world economy has witnessed more crises than the previous 30 – or probably even 50 – years.

We have seen unprecedented terrorist attacks, the severe acute respiratory syndrome (SARS) crisis, a global banking crisis, as well as many uprisings and political transitions in the Middle East and Africa, where tensions continue to simmer.

Though these crises had different causes, all had one common feature: they had a negative effect on business, with the fallout from the banking crisis being particularly severe.

While such crises affect all companies, their impact on Small and Medium Enterprises (SMEs) may be particularly harsh because SMEs have smaller buffers to shield themselves from the impact of a downturn.

And here in Singapoore SMEs may be in a doubly difficult situation because while demand decline – or other factors such as cuts in the availability of credit, as happened in the banking crisis – may be swift, downward adjustment of costs may be far more gradual, especially for ‘sticky’ costs such as rentals or energy bills.

SMEs need not despair though, since they have many alternative strategies to neutralise the negative impact, some of which are discussed at length my recent book ‘High Performance Companies: Successful Strategies for the World’s Top Achievers’ (published by John Wiley).

Best defence

A strong balance sheet is the best defence against the onset of a crisis. High levels of debt can be devastating in a crisis and SMEs must ensure that they are not highly leveraged, especially if they anticipate uncertain times.

Sometimes, companies take on high leverage to expand beyond their means, possibly due to their eagerness to take advantage of opportunities to enter new markets – geographic or product.

In October 2005, Singapore-based lifestyle products firm Osim used a lot of debt financing in its acquisition of US-based specialty retailer Brookstone, which, in fact, had larger revenues than Osim itself. Unluckily for Osim, within a couple of years of the acquisition the US economy suffered a deep recession due to the global financial crisis, severely eroding the value of Osim’s investment.

In fact, because of the poor performance of the Brookstone acquisition, Osim’s share price plunged and recovered only after the original investment was written off.

Though Osim was bigger than a typical SME at the time it undertook the acquisition, the debilitating effects of overstretching and high debt hold lessons for SMEs everywhere.

Lean and mean

ThinkAloud4While it always pays to be lean and mean in terms of cost structure, it may be vital during times of crisis.

Being lean and mean does not imply, however, indiscriminately cutting costs since companies might unwittingly cut some ‘muscle’ (e.g. key employees) while intending to cut only fat.

Human resources are increasingly important to the success of any company, small or large, and deep cuts in the form of retrenchments or even pay cuts might cause a company to lose its key employees, in turn affecting the company’s ability to take advantage of an upturn when it arrives.

Instead times of crisis, companies should look at adopting productivity enhancement strategies rather than retrenchments.

When it was in the middle of a deep recession, Lincoln Electric, a leading US-based manufacturer of welding products redeployed its factory floor personnel into sales support teams.

Not only did this strategy lead to higher sales, but it also earned Lincoln loyalty from its employees who were grateful for keeping their jobs during difficult times.

Competitive advantage

A strong and defensible competitive advantage can also shield a company from the debilitating effects of a crisis because it is usually difficult for rivals to copy. Such advantage could take the form of deep customer relationships, a strong brand reputation or a complete set of value creation activities that is unique to the company.

Regardless of size, companies should aim to cultivate defensible and durable competitive advantage.

However, many SMEs do not realise that a defensible competitive advantage can be created through a well-balanced set of strengths. For instance, in addition to having a good product a company must enjoy good recognition and awareness among potential customers, presence in the distribution channel, and adequate after sales service.

Significant weaknesses in any one of these areas could weaken and undermine excellence in areas such as technology and product quality.

Finally, SMEs must decide on an adequate level of diversity – whether in terms of country or product markets – and be disciplined not to exceed this. This applies even when there are ‘temptations’ in the form of easy profits to be made by entering a new sector or country (which often turn out to be elusive after-the fact), or pressure because some rivals are pursuing trendy strategies.

High diversity can be particularly taxing for SMEs because of their limited managerial resources. For instance, they may lack experienced managers to take on the challenges posed by international business, especially during difficult times when their core business itself might need attention and diversity accentuates the problem of limited resources.

Clear strategy

In the mid-1990s, The Hour Glass suffered badly in its efforts to acquire two watchmakers because the watchmaking business required very different skills versus its core retailing business.

Entry into watchmaking also magnified the impact of the business cycles on the company since it was involved in all aspects of watchmaking and retailing luxury watches, where demand was highly cyclical.

The Asian crisis further stretched the ability of the company to handle the diversity and led to the firm’s subsequent divestment of the watchmakers.

Interestingly, the company has been able to devise creative strategies and grow its core business much better post-divestment, possibly because its managerial resources were better suited to a lower level of diversity and also better understood its core business.

In summary, SMEs need to have a clear strategy that they need to pursue through good times and bad. A lean cost structure and a solid balance sheet can serve as excellent foundations for any SME’s strategy.

SMEs must also pay careful attention to building a defensible competitive advantage and enhance it whenever opportunities arise. With limited managerial resources, they must not undertake greater amounts of diversity than they can handle.

With appropriate strategies, SMEs can successfully navigate the complex and volatile business environment.