October 9, 2008
Why I think the ecomomy is even scarier than I thought
I'd love to see some data on the scale of the problem I'm about to describe, but I doubt it is readily available. Nevertheless, it scares the anecdotal bejeezus out of me.
The other day, I had a conversation with a friend who owns and operates a medium-sized company -- one that is, without dispute, successful. Been that way and growing for ten years or more. He operates soberly, conservatively and purposefully. Despite the economy, in terms of the bottom line, my understanding is that he's having a decent, profitable year.
So how did he wind up in a major cash crisis this week?
Forgive me as I diverge into a bit of business-process explanation that will seem elementary to some, but I find a lot of people don't realize that even businesses that are hugely profitable annually are not profitable every day -- especially on a cash basis. Some examples from industries I know well: Many consumer magazines lose money for the better part of eight months of the year-- and then make scads of money from September-December as retailers try to gin up holiday sales. Someday, compare a February and a September issue of Vogue . In addition to seasonal bumps, daily newspapers lose their shirts on Monday and Tuesday when advertising is scarce, but make out on Wednesday (grocery inserts) and Sunday.
But even during the profitable periods, you may not have cash in the bank. In most businesses, you book revenue when it is billed and expense when it occurs. But the gap between when you pay your vendors and when you get paid by your customers can make all the difference in the world. To go back to my magazine example, most commercial printers won't let you have more than one or, with sterling credit, two issues' billing outstanding. Meanwhile, most ad agencies pay so-called "net-30" bills somewhere between 60-90 days out. Customers without agencies tend to pay at 45-75 days. (This is average, with some prompt payers and deadbeats at the fringes.)
A good example from my early days in the D Magazine relaunch. We did a special issue that billed more than 10x our then-monthly average. It simultaneously saved our asses and nearly killed us, because the printer had to be paid long before the ad revenue was collected. Net on the year, it made us profitable on paper -- paper that's of little use until the cash comes in.
This is how business works (at least in America) and has for years. It's not been a big deal during my lifetime. It's the need that is largely addressed by the commercial credit market described in the This American Life segment I recommended the other day . Banks loan money to businesses to bridge these gaps, issuing revolving lines of credit that businesses draw up and down with great regularity.
This isn't long-term debt that you pay back over years. I've seen companies borrow $20 million dollars on their "revolver" on Tuesday and pay it back on Friday. It's how our banks have made money off of our tradition of paying certain bills quicker than others and issuing largely interest-free credit to our customers, even when they don't really need it, as an attempt to meet or beat the terms offered by our competitors. It's how we bridge the risk created by the fact that the company that hosts our servers could put us out of business with the flick of a switch, while our advertisers aren't going to (immediately) close their doors if we turn off their ads.
So, back to the hero of our story: My pal generally has less trouble than many others in his industry because many of his customers are big, reputable, Fortune 500 types who pay their bills in the average timeframe. But as it's become clear that the wheels were coming off our economy in the past couple months, they've slowed up their payments a smidge. Nothing dramatic-- two to four weeks longer at most. But in the ups and downs of a business, that can make a big difference.
So, hit the revolver? Right? Now while the interest on a revolver isn't usurious, it ain't free. So my prudent friend hasn't touched his in ages. He calls the bank, figuring that they'll be thrilled to hear from him, a successful conservative business that doesn't make or hedge crazy bets.
Wrong. See, unlike those jackasses who invented credit default swaps , banks actually have to have the cash to cover their bets. And cash has become more dear. So, this particular major bank, at least, has closed all revolving commercial credit accounts that haven't been used in the last couple months. They don't want to cover bets that aren't on the table, even though they are probably among the safer bets on the wheel today.
So open a new revolver? Fat chance. Nobody's issuing new commercial credit right now.
A crappy situation, no? Well here's the kicker-- There are hundreds of thousands of carbon copies of this story playing out all over our country today at scales large and small. Not all of them will be as resourceful and as well-prepared as my pal, who was able to pull through fine. The companies that were swinging vine-to-vine are toast. The ones that were pretty good will have to get great fast. And the great ones in terms of their operating business had best get clarity on financing of their success fast.
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Darwin is about to come knocking. While you can't see it walking through NorthPark yet, a lot of American businesses, big and small, are bound for the next elimination round on "Survival of the Fittest." And make no mistake, there will be profitable businesses that don't have the cash to survive.
Even the survivors will have to evolve if they want to make the next round. They're going to have to cope with the effects of their suppliers and customers who go belly-up without notice. And those businesses that fall will obviously create unemployment. This will be exacerbated by our country's newfound heebie-jeebies conservatism. (And none of this accounts for the lack of financing that is going to be available for capital-intensive, value-creating projects like building new facilities or buying new equipment.)
Last week, I was really focused on trying to understand what was going on with the banks and the brokers, but now I realize that they're just a symptom of the disease that has afflicted our credit-addicted economy. Peter is at the door. He's broke and pissed and Paul is off on one last exotic resort junket before he goes into court-ordered rehab.
The bright side of the story TK in a later post...
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It's lights out for Jazz Under the Stars at the Dallas Museum of Art
Will miss these....but heard about the Mesquite Symphonic Band ... Mondays in June. 7:15 p.m.. Westl
Dick Van Dyke and The Vantastix
Egorsti, just put in all the information and then press the Enter button - that should work.
Tracy Yost, verified:
I agree with you. House of cards.
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Billusa99, anonymous:
CDS's are going to be a huge thing in the next 6 months. They have not even come close to affecting the whole mess, yet. Perhaps with direct investment/ownership in banks (it will happen; Paulson touched on it this morning), they will be able to turn the screws and ease credit. We'll see.
In the meantime, your friend can do what tons of small business, particularly service businesses, have done for years. Factor. It ain't as cheap as a bank, but it keeps your doors open.
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Mike Orren, verified:
Unless your profit margin is pretty wide, all factoring does is marginally slow the death roll. And I wouldn't be surprised to see the factors tightening up too.
(For the uninitiated, factoring companies buy your receivables at a fraction of their value and then collect them directly. Rates vary based on the perceived collectibility of the invoices, but are high. Also, you can't turn factoring on and off quickly. Generally you have to sell them all your invoices for a long period and change your billing addy, etc.)
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AnnMarie Wilson, verified:
What amazes me (and has for a very long time) is with every report issued, the <b>experts</b> are shocked and surprised to find out that things are much worse then they assumed/forecast/stated/proposed blah blah blah.
All they had to do was talk to the rest of us - the small business owner, the lower and middle class, the single parent... the real people that make up this country.
We've been talking to anyone that would listen - we've been screaming STOP on the top of our lungs to no avail.
Instead we were told by Phil Graham: <b>We're a nation of whiners.</b> http://www.huffingtonpost.com/2008/07...
So, how's that little statement working out for everyone anyway?
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Billusa99, anonymous:
Companies I have worked with in past used factoring for just one reason: they "turned factoring on" only for specific invoice(s), that they wanted cash for now (not 60-90 days out), due to short term cash flow hiccups. No other changes of any kind were required.
Being IT service-oriented businesses, margins were high.
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Rick Yost, verified:
I'm not near as educated or experienced about the economy as others here. I've been a broke musician all my life. All I know of the economy is what cash I have in my pocket.
Things do look dire, but it seems to me that things will be only made worse by the media. The same media we've allow to grow into an entertainment source in the form of faux-news like putting lipstick on pork, or the aging and ever-more-boring OJ Simpson, is only dramatizing and escalating the economy scare for their own profits.
What I do understand about the economy is that the more frightened consumers are, the worse things will get.
I see us circling the drain in the throes of a self-fulfilling prophecy.
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Michael Davis, verified:
Wait 'til folks can't pay their credit cards anymore...I bet a lot of people have been charging their $3.50-$4 gas.
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AnnMarie Wilson, verified:
I pulled up at the post office today in my little red Yaris with the round Obama/Biden magnet on the back.
Next to me pulled in a full-size fairly new van with a few big McCain-Palin stickers.
The couple driving the van gave me a very dirty look.
I smiled as my next stop was to fill up with gas...
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Jeremy Dunck, verified:
"The bright side of the story TK in a later post..."
/me holds breath.
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momzilla, anonymous:
I have one credit card in my own name. (Not a joint account.) I've had it for over 30 years, since before I married. I use it for everyday expenses and the balance gets paid in full every month. I haven't had a full time job since 1984, and haven't had a dollar of income since 1999.
Not sure what's up with this "credit crunch" because I got a bunch of those credit card checks again this month with my statement. And, like every month, they went into the shredder.
Seems like somebody who doesn't have a paying job would be a bad credit risk. But what do I know?
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Travis Bush, verified:
The "credit crunch" has little to do with the predatory credit card companies and their lending practices. These practices will go on as long as there are credit card companies and people who reply to their offers.
As well, if you have even decent credit, companies will still bombard you with offers, regardless of the economy. After all, they won't stay in business trying to collect debt that is not recoverable. This means they have to generate a new customer base, one they hope will actually pay their finance rates and do so on a regular basis.
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momzilla, anonymous:
I wouldn't give me credit; I don't have a job! Yet, I could take one of those checks into a dealership and drive out in a brand new car. Further, the car couldn't be repossessed if I quit paying for it. I would hold the title.
Honestly, some of these credit places deserve to go out of business.
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Travis Bush, verified:
Of course you wouldn't, but you aren't speculating on the market, or how much the consumer will spend at any given time of the year. Common sense apparently has little to do with it and I agree, let them go to hell in a hand basket.
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momzilla, anonymous:
Unfortunately, neither of our presidential candidates seem to agree, Travis.
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Mike Orren, verified:
Rick, I wish I could agree that "The Media" is making all this worse by stirring up fear. And I sat on this a couple days before posting, sensitive to the feeding frenzy. But as both media and businessperson, I see what's happening here and it is quite real. Frankly, rather the media kicks up sand or not, the same thing is happening here-- the butterfly's wing has flapped, and consumer confidence is merely a ancillary factor. Frankly, I'm much more concerned about business credit markets than consumer, which will, as TRex suggests, roll on.
Call it fearmongering; I call it preparation. <a href="http://www.bartleby.com/123/62.html">Mithridates</a>, he died old.
Meantime, here's some interesting data/perspective. This is a preso that Sequoia Capital, one of the premier VC firms in the country, gave its portfolio companies this week:
<div id="_ss648808" style="width:425px;text-align:left"><a href="http://www.slideshare.net/eldon/sequoia-capital-on-startups-and-the-economic-downturn-presentation?type=powerpoint" style="font:14px Helvetica,Arial,Sans-serif;display:block;margin:12px 0 3px 0;text-decoration:underline;" title="Sequoia Capital on startups and the economic downturn">Sequoia Capital on startups and the economic downturn</a><object height="355" style="margin:0px" width="425"><param name="movie" value="http://static.slideshare.net/swf/ssplayer2.swf?doc=sequoia-1223625495238287-9&stripped_title=sequoia-capital-on-startups-and-the-economic-downturn-presentation"><param name="allowFullScreen" value="true"><param name="allowScriptAccess" value="always"><embed allowfullscreen="true" allowscriptaccess="always" height="355" src="http://static.slideshare.net/swf/ssplayer2.swf?doc=sequoia-1223625495238287-9&stripped_title=sequoia-capital-on-startups-and-the-economic-downturn-presentation" type="application/x-shockwave-flash" width="425"></object><div style="font-size:11px;font-family:tahoma,arial;height:26px;padding-top:2px;">View SlideShare <a href="http://www.slideshare.net/eldon/sequoia-capital-on-startups-and-the-economic-downturn-presentation?type=powerpoint" style="text-decoration:underline;" title="View Sequoia Capital on startups and the economic downturn on SlideShare">presentation</a> or <a href="http://www.slideshare.net/upload?type=powerpoint" style="text-decoration:underline;">Upload</a> your own. (tags: <a href="http://slideshare.net/tag/depression" style="text-decoration:underline;">depression</a> <a href="http://slideshare.net/tag/recession" style="text-decoration:underline;">recession</a>)</div></div><img border="0" height="0" src="http://counters.gigya.com/wildfire/IMP/CXNID=2000002.0NXC/bT*xJmxPTEyMjM2Mzc1MzAwNDUmcHQ9MTIyMzYzNzUzNjA4NiZwPTEwMTkxJmQ9Jm49Jmc9MiZPSZvPTJiZjk3ZDg4ODc2NTRiOTFhNjQwMDg2ZjY3NWNjMmZk.gif" style="visibility:hidden;width:0px;height:0px;" width="0">
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Tracy Yost, verified:
How about a poll - if there is a mortgage bailout to help those in trouble, how many of you will quit paying your mortgage every month so's you can get some of that help ? :-)
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xdavidwattsx, anonymous:
I'm with MikO. I wish this were as simple as media fearmongering or a self fulfilling prophecy. This is a legitimate problem that is spreading into a global problem. I hate giving those greedy bastards on Wall Street more credit than they deserve, but they are highly intelligent people. They aren't doing 700 point Dow sell offs for no arbitrary reason.
My big concern is that ultimately no local economy or industry is going to be immune to this. While it's largely been isolated to investors, banks, and insurers, the ramifications are going to hit all of us soon. It takes money to make money and if liquidity is tight then lots of random businesses will suffer.
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Mike Orren, verified:
Not my forthcoming post, Jeremy, but here's some upside I hadn't considered:
http://www.timesonline.co.uk/tol/comm...
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luniz, anonymous:
btw Mike, this was a good read. Nice writing.
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jtmbls, anonymous:
Very nice writing. It’s refreshing to see something a little more substantial than snippets from the local wire. Hope there are many more to come.
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Jason Rice, verified:
While it's an ill wind that blows no good...
... it still blows ;o)
Nice article that I fully support as "Pan-Local"
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Chris Kidd, verified:
Hence another reason I only buy what I can afford. People as a whole, as well as the banks and investors, got us into this mess because they extended credit to people who had no business having it to begin with. I myself dont carry any major credit(only my bank visa check)or gas cards, because of the fact ive seen what it can do to people personally(parents got themselves in a BIG hole).
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Mike Orren, verified:
On the question of the media and its impact, from my new favorite national publication:
http://www.thedailybeast.com/big-fat-...
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Travis Bush, verified:
That's a laugh, Mike. The Wall Street speculators don't like the media speculating on their speculation....
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Mike Orren, verified:
A counter to the Sequoia piece:
http://www.paidcontent.org/entry/419-...
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Travis Bush, verified:
Patricof says: (I know the automotive industry is also going through bad times but it no longer pervades the economy as once conveyed in the expression “As GM goes, so goes the nation.”)
I say it hasn't even started for the auto industry. Look how long it took them to get anywhere near serious about mass producing even hybrid vehicles. It is my estimation that years of banking on the sales of large SUVs and trucks, hasn't quite had the full effect it will in the next couple of years.
Just think of all the dealerships chock full of vehicles that no one can afford to buy, much less the gas for said vehicles. You think they will continue to survive? We've got an awful lot of DFW dealerships and one can guess what happens if they start folding.
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xdavidwattsx, anonymous:
Agreed. Auto makers have struggled in the past months but they are nowhere near the bottom. The next year is going to be far worse for auto makers.
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Mike Orren, verified:
Auto makers have struggled in the past months but they are nowhere near the bottom. The next year is going to be far worse for auto makers.
That's what they say about the ad-driven media biz too... Yet somehow that's a component of my aforementioned, oft-promised, and to-be-written-as-soon-as-my-sinuses-clear "bright side of the story" post...
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xdavidwattsx, anonymous:
Valid point, but selling ads/media is different than selling autos to debt ridden consumers in a tight credit market.
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DC, anonymous:
So tonight we attended some sort of well, I don't even know what to call it thing. You see, there are really sevearl tiers to the banking system and apparently we live in the 'premier' system for Bank of America.
What the hell, we thought, why not eat, drink and whatever it is you do at these things?
Well, the valet at the Ritz was an absolute disaster. I think the clutch on the Audi is down to the curlies.
Still, we managed to sit in a room of 99.99997% blue haired white dudes chomping on cigars while some morons read stories from their cel phones about assassination plots on Obama.
This was surreal.
Noone wanted to address that McCain has all ready achieved about the predicted life expectancy for American males and statistically is about over 9000 times more likely to die of heart attack-cancer-stroke than anyone is to die of neo-nazi tickle strikes.
We also heard how they hope to 'muddle' through this one aaannnddd....
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Lisa Lawrence Merritt, verified:
Dig it:
http://business.timesonline.co.uk/tol...
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DC, anonymous:
Here's another good model presented to me recently:
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Mike Orren, verified:
While we're piling on:
http://www.nytimes.com/interactive/20...
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Lisa Lawrence Merritt, verified:
12/12/12 Blame it on the Aztecs.
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alexander troup, verified:
Blame it on folks who died on the Titanic and then their ghost were found, in the artifacts that ended up on Wall Street,... A,T. Ghost Hunter for Holloween.
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Billusa99, anonymous:
日本の恐怖物語
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DC, anonymous:
日本の魚の物語 http://home.comcast.net/~dbardallis/e...
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Pavel Lishin, verified:
нечестно использовать иностранный язык!
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alexander troup, verified:
Titantic,s criptic ghost message realized around Holloween,on the economey.!4#%%676())((&^%%43@$^^&*(__()&*65$####, as realized from the early radio S.O.S on board the boat as it sunk, now comming from radar......to 2008, and the message was, watch out for icebergs....A.T. H.2.O
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ch0, anonymous:
01000001010011000100110000100000010101010101001000100000010000110100100001011010010000100101010101010010010001110101001000100000010000100100010101001100010011110100111001000111001000000101010001001111001000000101010101010011
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Scott Doyle, verified:
Per Miko's blog post:
*This is how business works (at least in America) and has for years. It's not been a big deal during my lifetime. It's the need that is largely addressed by the commercial credit market described in the This American Life segment I recommended the other day. Banks loan money to businesses to bridge these gaps, issuing revolving lines of credit that businesses draw up and down with great regularity.*
Hard to believe I didn't join a bidness discussion back when it was going on, but I just read <a href="http://blogs.reuters.com/great-debate/2008/12/03/credit-cards-unkindest-cut-for-us-consumers/">this opinion article</a> discussing the severe cutbacks of credit available to businesses and thought of this. Seems this hurts small businesses more than anything, but I presume the crunch hits big guys at least a bit.
Further doom and gloom? Media outlets going to crumble if credit's not there for them to shake out interim cash flow issues? PN will be alright, yes?!
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Travis Bush, verified:
I'm listening to the auto makers speak to Congress...They claim to have electric cars ready to go just in time to start paying off their loans...I would ask why it took them so dam long to jump on the bandwagon? It seems their entire a44 has to be in a sling to reconfigure operations. At least the congressmen are giving them hell.
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Jason Rice, verified:
Yeah, their little "driving hybrids this time" stunt falls kinda dead on me.
And Mike - if it comes to it, I propose a moniker
"Pegasus News: Our Lady of Perpetual Opinions"
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Mike Orren, verified:
Good perspective on the media hype. I know that the video news feed in our elevator does nothing to help the mood:
http://www.nytimes.com/2008/12/08/bus...
Great line:
*"The recession was actually not officially declared until last week, but the psychology that drives it had already been e-mailed, blogged and broadcast for months. I used to worry that my TiVo thought I was gay — doesn’t everyone enjoy a little “Project Runway” at the end of a long, hard week? Now I worry that my browser knows I am about to lose my job."*
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Lisa Lawrence Merritt, verified:
I am seriously worried at this point as to how long I will remain on the gov'ment dole.
Especially since I haven't seen the first check yet!!
(@@)
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Scott Doyle, verified:
<a href="http://www.reuters.com/article/newsOne/idUSTRE4B62A620081208">This </a> probably doesn't help the mood either. At least you can hold your head high, Miko:
<i>The Tribune, which owns many newspapers including the Baltimore Sun and the Orlando Sentinel, is under pressure from declining advertising revenue and circulation <b>as more people get news online</b> and as companies cut their marketing budgets because of the limping economy.</i>
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What do you think?