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Monday, 2 November 2009

“L” Shaped, “W” Shaped, “V” Shaped, “U” Shaped?

I am beginning to be very bored by the many opinions as to the shape of the recession and with the many and varied views as to whether we are coming out of it (or not yet).

There is no doubt that, as managers, we can only react to the situation so it seems pretty sensible to have a view as to which way it is likely to go.

Whatever the shape of the recession, (and I favour the “L” shape), we are now in the New Normality where the economy fell of the cliff around August 2008 and since then has gradually flattened out with very slight signs of an upward movement.

That means that, if this is now a normal situation, then we need to shape (or re-shape) our businesses on that basis. If we can achieve that, then when the economy really does start to improve, we will be in a strong position to exploit the improvement.

Check out the “five line” P&L. Start with sales, minus cost of sales (usually materials and labour costs) equals gross profit, minus fixed costs equals net profit.

On that basis you can see which of the criteria you can affect. Sales can be predicted with some accuracy but not materially affected. Labour and materials can be directly affected so that the gross margin is maintained, and finally the fixed costs can be controlled. If you can get all these criteria in balance showing a net profit, then you will see the new shape that the business needs to take.

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