A recession is a period of temporary economic decline during which trade and industrial activity are reduced, generally identified by a fall in GDP in two successive quarters. In times of recession, the buying power of the general public will be significantly reduced, resulting in a slow economy and lower sales for companies. While many factors cause recessions, like wars, inflation, geopolitical turmoil, natural disasters, or supply chain disruptions, recessions are always hard on companies of all sizes. This is a time when companies try to cut costs by laying off their workers. While done on a large scale, this only catalyses the economic disaster as more and more unemployment means less and less buying power. From the startup point of view, recessions can be both advantageous and disadvantageous. In this article, we will discuss the impact of recessions on the startup sphere.
The Negative Effects of the Recession on Startups
1. Low buying power of customers
Recessions can have a significantly negative impact on startups, as they are always connected to a low product or service demand due to decreased consumer spending and reduced access to funding. During this economic turmoil, people are more likely to cut back on non-essential purchases, which can hurt startups that are trying to grow their customer base. As more people focus on saving money, if your startup falls into the nonessential or luxurious product or service category, it will be harder for you to steer. Moreover, investors and lending institutions become more cautious during the onslaught of recessions and reduce their investment and lending activity. This makes it harder for startups to secure the funding they need to grow and operate.
2. Recessions result in unhealthy competition
During recessions, startups will face increased competition as larger, established companies may try to capture market share by lowering prices. This makes it harder for startups to compete, as they won't have a solid financial backbone to counter larger institutions. Recessions will also lead to a decrease in consumer confidence, which will hurt startups that are trying to establish themselves in the market. Customers stick to previous, well-known brands and avoid experimentation, as money will gain significant value during the recession. As a result, sales might dwindle, jeopardising the existence of startups in certain domains.
3. Layoffs will further worsen the economy
In 2022, 1044 tech companies laid off 159846 employees in India (Source: Layoffs.fyi). Recessions lead to a rise in unemployment, which can result in a decrease in consumer spending power due to the Domino effect. Employees who regularly invest in the stock market, mutual funds, and SIP plans will reduce their investments or sell their investments when they are laid off. This makes it harder for startups to generate revenue. During recessions, many startups and businesses may fail, leading to a decrease in overall demand for goods and services and further hurting the growth prospects of startups. Unemployment rates will also fuel a sense of fear in investors, which makes acquiring investments for their firm challenging.
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How Recessions Positively Affect Startups
While recessions can be challenging for startups, they can also provide opportunities for growth and success.
1. Increased affordability can boost startup growth
Recessions will decrease the costs for startups, as suppliers will be more willing to negotiate lower prices. Moreover, rental and labour costs may decrease. This can help startups reduce their overhead and operational costs and improve their profitability.
2. Recessions will give startups access to a larger talent pool
During recessions, companies often resort to employee layoffs. This provides an opportunity for startups to hire highly skilled workers as laid-off employees seek new employment opportunities. The workforce is a valuable resource for startups, and recessions help startups hire top talent at a more affordable rate.
3. Startups can thrive on increased demand for innovation
During recessions, businesses and consumers are often looking for ways to cut costs and improve efficiency. This opens up new opportunities for innovation. The situation creates demand for innovative products and services that solve problems at affordable prices. Startups that can provide these solutions can find new business opportunities during a recession.
4. Recessions provide an opportunity for market disruption
Recessions can shake up even the most established companies and create opportunities for startups to disrupt traditional business models and capture market share. With larger and more institutional companies struggling to adapt to the changing times, startups can take advantage of the situation and establish themselves as market leaders.
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How to Flourish as a Startup during Recessions
1. Be careful with your cash.
In times of economic turmoil, it is vital to extend your runway by conserving your available capital, as cash will be harder to earn, raise, or save. This means your spending should only focus on enhancing your product or service or generating new sales while limiting non-essential initiatives. The focus should be placed on short-term, high-potential projects. During a recession, maintaining a robust cash reserve is crucial, so consider obtaining a line of credit instead of equity funding. Although interest rates have increased, credit remains a more cost-effective solution compared to securing new equity funding, especially during the recession.
2. Stay close to your venture investors.
Investments can be highly volatile, rare, and risky during recessions. According to Financial Express, late-stage investments fell by 45% from $29.3 billion between Jan-Nov 2021 to $16.1 billion for the same period in 2022. Securing venture capital for startups during an economic recession will be difficult, as investors tend to be more cautious during these times. However, it is still possible to obtain funding by presenting a strong business model, showing a strong customer base, and having a clear growth plan. Moreover, smart investors understand the value of investing in the right startup, especially in times of crisis if the startup has high potential. Research and target investors who are still active during recessions and have a history of investing in similar startups. Be ready to deliver a convincing pitch that showcases your unique offerings and potential for growth. Additionally, consider alternative funding options such as grants and crowdfunding. Keep in mind that the funding process may take longer during a recession, so remain persistent and proactive in your efforts. By taking a strategic approach, it's possible to secure the necessary capital to expand your startup, even during a recession.
3. Embrace your best customers.
The recession is an opportunity for you to make stronger connections with everyone around you, including your customers. It is more cost-effective to sell to existing customers than to acquire new ones during recess. If you are a B2B startup, visiting and communicating with your customers can provide valuable insights into customer satisfaction and help you avoid any risks. If you are a B2C startup, conduct online surveys, implement rewards programs, and take other initiatives to show appreciation for your customers. This will ensure your customers that you care about them and increase your startup value due to the efforts you make to communicate with them.
4. Build your startup with your best employees.
During a recession, retaining top talent becomes increasingly important, as employees may be more likely to seek new opportunities or become disengaged due to job insecurity or financial stress. For startups, this task will be overwhelming. If the need arises, fire your low-performing employees and assure the rest of their job security and importance. However, keep in mind that a loyal workforce is a major asset even in times of crisis. Hence, communicate with your employees about the state of the company, the impact of the recession, and any changes to operations or staffing. This honesty will build trust and transparency, which are key to employee engagement. Provide stability and security through fair compensation and benefits packages, flexible work arrangements, and opportunities for growth and development. Encourage collaboration and teamwork and provide opportunities for employees to contribute their ideas and skills to the company. Recognise and reward top performers, which will build loyalty and engagement. By prioritising the well-being and engagement of your employees, you can help maintain a strong and motivated workforce, even during a recession.
5. Create a unique startup culture.
Your startup's company culture is one of the most important factors in employee retention. Employees know their market value, and most stay with you if they are compensated, engaged, and feel they are making a difference. Focus on culture and communicate your company’s uniqueness and value proposition. A strong and positive company culture minimises the effects of a recession by providing a sense of stability and security. It fosters a sense of community and belonging among employees and promotes innovation and creativity. In times of uncertainty, a strong culture can also provide employees with a sense of purpose, encouraging them to remain focused on the company's goals and work towards a common goal. It also attracts and retains top talent, even during a recession, as employees are more likely to seek out organisations that align with their values and beliefs. As a startup owner, it is important to prioritise and maintain a strong company culture during a recession, as it can have a significant impact on employee engagement, motivation, and overall success.
6. Use digital marketing.
With consumers spending an average of eight hours per day online according to Wordstream, businesses must have a strong digital presence to attract and connect with both current and potential customers. The various methods of online marketing, including email, social media, content, and paid advertising, provide unlimited opportunities to reach new and existing consumers. With the growing importance of Google search in online shopping, it is important to have a strong presence across multiple digital channels to capture your target market and increase customer engagement. This is relevant for all types of businesses, not just those in e-commerce. To set your business apart, it is crucial to have a robust website with clear communication of your value proposition and differentiation from competitors, optimised for search engines. Using content marketing with a well-thought-out strategy in social media, blogs, and SEO optimisation will also cut paid advertising costs and help you save money during recessions.
7. Cut the bottom 20% of your customers
This might sound counterintuitive. However, your startup can be slowed down by customers who waste manpower and resources for the value they provide in return (Source: Comrade Digital Marketing). By eliminating the bottom 20% of underperforming customers, startups can focus on providing better service and support to their most valuable customers, improving overall customer satisfaction and loyalty. This, in turn, can lead to increased sales, repeat business, and positive word-of-mouth recommendations. Moreover, cutting these customers can also help reduce operational costs, such as time and resources spent on chasing payments, resolving complaints, and providing support. This strategy will be highly beneficial for B2B startups during recessions. This strategy frees up resources to be invested in other areas of the business, such as marketing, product development, and customer acquisition. It is important to note that cutting customers should not be taken lightly and should be done responsibly and professionally. This might include communicating the decision to the affected customers and providing them with a timeline to transition their business elsewhere, offering alternative solutions, or referring them to competitors. This helps you maintain good relationships and avoid negative reputational impacts.
Conclusion
Recessions are a normal part of business, and startup owners need to prepare themselves for any disruptions like recessions. They provide several growth opportunities for startups, like better affordability, a wider talent pool to hire from, better opportunities for innovation, and a chance to compete with established businesses. However, recessions can also be disadvantageous, as they normally reduce the buying power of customers and increase unhealthy competition. To thrive in a recession, startups can follow a growth strategy and use their market knowledge to stay relevant, competent, and profitable.
Being careful with your spending must be the primary factor in surviving a recession. Apart from that, embracing your best customers and employees helps you sustain during a recession and retain talent afterwards. Firing your worst-performing employees and clients who give less in return for the resources you spend on them will cut costs. Moreover, find and stay close to venture investors during recessions, as they are hard to come by. Invest in digital marketing, especially content marketing, to reach and retain customers effectively. Finally, pay attention to your startup's company culture, as it will make or break it during and after the recession.
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Citations
Shipley, Lou. “5 Ways Startups Can Prepare for a Recession.” Harvard Business Review, 10 Nov. 2022, https://hbr.org/2022/11/5-ways-startups-can-prepare-for-a-recession