Small-to-Medium Businesses - the economy's foot soldiers
It is strange how providence often sharpens our focus. The topic of micro, small and medium enterprises (better known as SMEs) has been on my perpetual “to do” list for some time. COVID-19 has brought these often-underestimated foot soldiers into the spotlight. By definition , SMEs are businesses employing up to 250 employees. With 5.9 million such businesses in the UK in 2019 , they account for 99% of UK businesses. In Germany, the numbers (in the so-called “Mittelstand”) are not so high but are equally critical. In both countries, it is well recognised that SMEs form the engine room of the economy. They drive productivity; they are key components of many supply chains from manufacturing through to service delivery. Equally important, they are often integral to local communities, offering employment but also forming part of the DNA of that community and the locality. While attention turns often to the big players (not least those listed on the markets with shareholders to please), it is the SME cohort that keeps things ticking over, both at a micro- and macro-economic level. Across many industries, SMEs have never been more essential to us than today.
The past few years have been intensely challenging for many such businesses. The digital revolution has changed behaviours forever. I see this when I walk down my local high street and see another small business call time. There are many reasons of course. One example sticks in my mind – a fabric shop that decided to close as they had simply become “a fabric library”. People would borrow their samples and then buy something apparently cheaper online. You can never fight the tide of change but you can decide how you want to engage with it. Another challenge has been customer sentiment since the 2008 financial crisis, accentuated by the perpetual question over Brexit in recent years. Nevertheless, some shoots of success also exist; there are SMEs who have done their homework, established themselves and are doing well in terms of customer footfall. A local coffee shop near me (which becomes a wine bar/tapas three nights per week) is a good example, finding a niche spot in a crowded high street. Also, at a business breakfast talk I gave in January, I was pleasantly surprised at how determined and upbeat businesses were for planning 2020 and beyond.
Sadly, the current disruption and, for some, the hard stop due to COVID-19 is the latest storm that SMEs must face. For some businesses, this near-perfect storm is just the latest battle; for others, it may be the first real test of their resilience. However, the UK is a country founded on business tenacity, resilience and innovation. Putting to one side the Government’s short-term fiscal support policy, what else can SMEs do right now to not just survive but flourish going forward? That elusive pink unicorn has never been so sought after by some.
First of all, although basic business principles are the same for businesses large and small, SMEs can leverage their size to good effect. For example, the balance sheet may be less complex with clear line of sight between revenue and costs. Also, there will be less complexity in the business model, again presenting a clearer view on where changes can be made and the knock-on effect of these on staff, processes, technology etc. The sailing analogy is pertinent. Big businesses are like oil tankers; they can weather high winds and seas better than smaller craft but they are also harder to turn. Now picture the 40-foot yacht. It always needs to be wary of changing conditions but, equally, it is sufficiently nimble to change course quickly, as long as the crew know what they are doing. Better still, a sailing boat can tack, zigzagging its way to its destination in a more efficient way than a bigger beast. More than ever, smaller businesses need to be clear on what they want to achieve (see my earlier article on goals setting) and then bake in a layer of agility in terms of how they get there. These are the basics of good strategy.
Also fundamental to any business strategy is basic maths - revenue minus direct/indirect costs and taxes must equal a sustainable business. SMEs are buffeted at present by reduced revenue and/or static/rising costs. COVID-19 has highlighted for some the pain of not having a sufficient cash reserve. One of the issues right now is not the short-term impact of lockdown; it is rather how will small businesses recover and be sustainable over the next 6-18 months, given the aggregated debt due to loans/rates holidays and lack of revenue, coupled with uncertain future demand? So how can businesses flex right now to prepare for 2020 and beyond? More than ever, businesses need to work off three core principles:
· They need a solid core customer base that is less transient;
· Have an efficient and effective business model that is sustainable; and
· Be able to create a sufficient cash reserve.
This may seem like the Holy Grail to some, given the current economic climate and layer of uncertainty that goes with it. Every business is different with different drivers and pinch points. I have no magic bullet but this is an opportune time to step back and consider a few ideas around these principles.
Let’s start with the ultimate uncontrollable factor – demand. The aggregated uncertainty following the 2008 crash and Brexit has impacted (in some areas more than others) customer spending patterns and people’s willingness to take risks with their own cash. Your customer value proposition is fundamental to success. Are you offering a product or service they want but, critically, can they see the value in your offering (as opposed to your competitors)? Also is this proposition sustainable long term or is it time-bound? What can you do to improve your value proposition to customers? For example, which elements of your offerings are most sought after or offer the greatest pull to maintain and grow your customer base? Secondly, how do you interact with customers in both your marketing and sales? Does a digital footprint help you to promote what you offer? Do you need an online presence to sell or is this a secondary channel? Digital has transformed how we live and how we make decisions on spending money (especially right now). However, use of digital for sales does not come without a cost – ensuring you can run the online business without any excessive uplift in costs (e.g. processing online purchase to pay and integration into your wider processes and systems). A final point on the customer is the perpetual dilemma of volume of sales versus price/profit. Demand will always be a strategic risk for any business, be they a semiconductor chip manufacturer, a vintage clothes shop or a small chain of coffee shops. A key mitigation should always be “get more customers and hence revenue” through competitive and perhaps innovative pricing rather than focus on short-term profit. The bigger the customer base, the greater the buffer if demand falls off. I can think of a few new businesses in recent years who, within months of opening, put up sales posters. Perhaps profit was placed above establishing an early customer base with solid revenue. The damage was done. Customers can always smell blood.
Revisiting the business model
This leads to the second area of consideration – your business model. Does your business model work effectively for your core customer base? If customer demand falls, is the model still fit-for-purpose? Small businesses have a wonderful opportunity (with minimal cost if done properly) to inject some improvement if not innovation into their business models. This is not necessarily about radically changing the business but about targeting changes in certain areas. On a smaller scale, such changes can be impactful. There are three ways in which you can refresh your business model:
· The revenue model;
· The end-to-end business operation itself (including any suppliers and partners);
· Your product or service offering.
In terms of the revenue model, you can innovate in two ways: through an improved value proposition (discussed earlier) or through a new pricing model. The former involves looking at the value elements of your business (e.g. the distinct finish on a product; the unique skill set of your staff in what they do) and then reconfiguring your value proposition to customers around this so the value element is centre stage. Innovation in pricing is about selling your services/products in a different way (e.g. can you move from a single overall price for a set of products to one which has basic product free and other components at a price, or can you move from an event-based price to more of a monthly or annual subscription)?
With regard to your end-to-end business operation, can you make changes in the supply chain and change who does what (your staff vs suppliers vs partners). For example, do you operate the end-to-end system or can you specialise and outsource elements to others in a cost-effective way? This is particularly relevant to those in production businesses with a range of suppliers and/or partners involved.
With regard to the product offering, can you reset what you offer? This may be the most radical change for some. This takes one of two forms – an industry differentiator or a move into a new product/offering (horizontal move). Neither of these may be palpable, given the upfront investment cost involved. However, there may be some who can see a very easy switch from one offering to another (again COVID-19 has proven this with the pivoting of several smaller manufacturers onto healthcare equipment production).
Cash readiness and measuring performance
All of these ideas (and some will appeal more than others) need to be stress tested through one additional lens – a sustainable cashflow and a suitable cash reserve. Again, COVID-19 has sharpened people’s focus on this and the need for accessible cash. I’ll leave the accountants to help you think about what cash level is needed. This often means making tough decisions such as reducing investment costs or stripping out other areas of cost. However, it should never be seen as a nice to have but a key requirement of any long-term business.
A final noteworthy point is about measuring progress and success. Clear and systemic performance management should be an essential part of any SME’s set up, as much as any bigger business. Audits will always give some sense of business health but they cannot always predict where risks lie and what might be coming round the corner. A forward-looking scorecard with a suitable set of indicators (e.g. revenue and cash flow, customer indicators, staff indicators, efficiency indicators etc) is always needed to spot early warnings of where things can go wrong. This does not need to be overly sophisticated, but it does need to give a 360-degree view of the business so that the business health is understood by more than just the financial statements.
The pointers above are just starting points; some will be more germane than others and all need to be considered on a case-by-case basis. The criticality of micro, small and medium businesses has never been greater than it is today. Whether you employ two people or 250 people, you matter. Without doubt, we are in a transition period, a time of both economic and cultural reboot; the so-called “new normal” presents many unknowns. Someone who knew a thing or two about uncertainty, Churchill, once said “A pessimist sees the difficulty in every opportunity; an optimist sees opportunity in every difficulty”. This can be a time for focused reflection in many businesses. It is a golden opportunity to reset or refine where possible, both in terms of what your business does and, equally importantly, how it does it.
 Source: Department for Business, Energy and Industrial Strategy (BEIS): UK Parliament Briefing Paper on Business Statistics - December 2019