Now that the evidence is pretty strong that we’re headed into an economic downturn (or are already in one), I thought I’d identify some mistakes that many entrepreneurs make in bad economic times.
1. Failing to take advantage of decreasing costs. Most businesses are both suppliers and customers at the same time. To provide its product or service, your business needs to purchase the inputs and materials that you use, and you need to hire people to make your product or service. When demand slackens, your suppliers are hurting too. So often you can strike a better deal to cut your costs by paying your suppliers less or hiring better people at a lower cost.
2. Thinking the only way to increase demand is to cut price. Price cuts aren’t the only way to stimulate demand, and they aren’t the best approach for entrepreneurs. On average, entrepreneurs are more successful when they compete on service, quality, or something other than price. So shifting to price cutting in a recession is often a losing strategy for entrepreneurs.
3. Failing to recognize increased competition. In a recession, competition accelerates because more businesses are chasing less total demand. In addition, when unemployment rises, people start businesses because their opportunity cost of doing so goes down, further increasing competition. So the need to have a competitive advantage is even more important in a recession than in a booming economy.
4. Forgetting that some products, or even whole businesses, are counter cyclical. When customers cut back on their spending, they often substitute one product for another. For instance, in a recession, people might cut back the number of steak dinners that they eat out. But, because they still want to treat themselves, they increase their purchase of cheaper foods, like pasta, making pasta a counter cyclical product. So, entrepreneurs need to avoid assuming that demand for everything goes down in a recession.
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About the Author: Scott Shane is A. Malachi Mixon III, Professor of Entrepreneurial Studies at Case Western Reserve University. He is the author of nine books, including Fool’s Gold: The Truth Behind Angel Investing in America ; Illusions of Entrepreneurship: The Costly Myths that Entrepreneurs, Investors, and Policy Makers Live By; Finding Fertile Ground: Identifying Extraordinary Opportunities for New Ventures; Technology Strategy for Managers and Entrepreneurs.