Over the past decade, private equity firms’ investment in tech and other industries has soared. Low-interest rates made obtaining capital relatively cheap, and enthusiasm for supporting the next big thing was the name of the game.
However, with inflation at highs unseen since the 1980s, the Fed has had to increase interest rates over the past quarter, with more hikes expected over the coming year.
Such changes in the economy will lead to a dampening of available capital, which will impact the startup world. Rather than relying on private equity capital to scale growth, new and growing companies will need to tighten their belts and take a different profitability approach.
How Will Startups Continue to Thrive?
Companies that have an eye on the economy will be wise to start preparing for hard times by building up their cash supply and cutting costs now.
They’ll need to take a hard look at their expenses and determine what is essential and what’s not. Rather than focusing on growth and expansion, they’ll need to take a rigid approach to save money and build their balance sheets.
The ambitions of private equity firms will likely change from building their portfolio to managing it. Startups and other firms that private equity investors partially or wholly own will probably see increased interest by their investors to control profits.
Companies that show profitability during tough times will become the industry darlings, while businesses that run into continuous losses will be dumped by their benefactors.
What Measures Should Be Taken to Maintain Profitability?
There are several measures that fast-growth companies should begin implementing to ensure profitability in an uncertain economic environment. A few include:
Reducing staff levels is never popular, but companies should recognize that demand for products and services will likely decline in the wake of rising costs. As part of their cost management strategy, efforts should be made to reduce non-essential staff and realign duties for employees deemed fundamental.
If the company is unwilling to make layoffs across the board, it could follow a strategy that gradually cuts payroll expenditure through natural attrition. When an employee decides to leave, no efforts are made to replace them. Instead, the employee’s most crucial tasks are split among the remaining team members.
While COVID-19 led most companies to reduce travel and entertainment expenses to almost nil, loosening restrictions have brought business travel back to nearly normal levels.
However, travel and entertainment are the most accessible expenses to cut. Rather than meeting a potential customer in person, sales can easily set up Zoom meetings to maintain relations and ongoing sales efforts, significantly reducing travel costs.
Another area for potential cost reductions is technology. Companies use lots of software and other technology for running operations. If a plan was in place to implement a comprehensive enterprise resource planning solution, it might be best to put the project on hold until better economic conditions arise.
Extending Vendor Payment Terms
Negotiating longer vendor payment terms is a way to build up cash reserves for companies that need more substantial working capital. Businesses that have developed strong relationships with certain vendors can work to extend payment terms through practical discussions.
While not all vendors may be amenable to longer terms, opening up the discussion can be quite helpful. Depending on the relationship, some vendors may be more accepting of longer terms than others.
Prolonging Remote Work
If the startup or company thrives in a remote work environment, continuing that model can be cheaper than returning to an office (if there ever was one). While the business can save on rent expenses and utilities, remote work remains quite popular for employees who have grown used to working from home.
Remote work is viewed as a desirable perk that companies can provide at little expense. It’s especially beneficial to employees with children or those who would have long commutes to a regular office.
Raising Product and Service Prices
Implementing increased prices for a company’s products and services can effectively offset decreased demand. This measure should be explored very carefully and monitored to determine its efficiency. The company doesn’t want to drive away current customers and should continue to attract new ones, even with increased prices.
When determining the appropriate price increase to be implemented, measure revenue changes from month to month and customer demand. The aim is to improve profitability and revenues, not decrease them.
Build a Cash Stash
The company should seek to protect its cash above all else. Saving money can help protect the company from sudden changes in product demand and unexpected expenses.
Rising interest rates lead to higher borrowing costs, which the company should seek to avoid. Having a cash stash will make the business less likely to depend on funding for working capital shortages.
Putting It All Together
A decline in available equity and debt capital shouldn’t be viewed as doom and gloom.
Instead, it’s an opportunity for companies to improve their financial management skills, which are imperative to any company — start-up or well-established. Those companies that initiate changes now will be the most likely to enjoy continued profitability in a challenging economic environment.
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