Abstract
The objective of this research was to study the pre and post recession scenario with regards to the World and Irish economy in particular. The research was formalised by drawing up two hypotheses. The first hypothesis was that organisations have failed to spot the oncoming recession. The second hypothesis was that cost cutting cannot alone help the companies in overcoming the recession. Background research on reasons and effects of recession was done. This was followed by a literature review to assimilate information that would help support or negate the hypotheses.
Quantitative and qualitative research was used as part of the research. While it would have been ideal to have a focus group discussion where the respondents could have been able to contribute and validate what other respondents said, the subject of the research did not allow respondents to share their views in a group environment. Four primary research surveys were designed as part of the research design. The surveys drew from the insights gained by doing the literature review. The survey questions were designed to elicit brief but concise responses from the respondents with the option of ranking some of the question responses in the order of importance. The in-depth survey formed part of the qualitative research. The in-depth survey was used more as a validation methodology for the insights gained from the primary research. There was, though, a second objective of the in-depth survey and that was to get some further understanding of key questions that arose from reviewing the primary research responses.
The results of the research validated both the hypotheses. While organisations had failed to spot the oncoming recession they did believe that even though cost cutting was important it was not the only thing that could help them survive the recession. Most, if not all, organisations seemed to rely more on macro economic indicators to spot recession rather than external consultants or internal reports and metrics. They, as governments the world over, failed to spot the recession despite their resources and access to ‘expert economists’. It is unclear how organisations will be dealing with trying to understand the growth of these trends.
The organisations surveyed had cost cutting measures put in place. However, they felt that the focus was also on other issues such as brand rationalisation, discounting and new products and launches. One other important finding from the research was the concern amongst organisations how they would fare post the recession. It is not just a matter of whether they survive or how many competitors are left in the fray and in what state, but of what the underlying profitability is and the fundamentals of the economy that can help them grow their business. The latent concern amongst organisations seems to be on how they will be able to make up for the lost time.
The surveyed organisations seemed to be less reliant on credit rating and related organisations which might help them in being able to seek refinancing and working capital loans if need be. Financial and other institutions that have had their credit ratings revised have experienced difficulties or stricter terms while borrowing. This should do the surveyed organisations a great deal of good as respondents did feel in general that they would be able to survive the recession. However, they might not be able to return to a growth phase earlier than the Irish economy itself. One of the primary research respondents has actually experienced an increase in sales as a result of the recession. This can be true for organisations in the field of food retailing, legal and insolvency proceedings, spirits and alcohol manufacturers and a few others.
It seems that many organisations have put in place some measures to deal with future recessionary scenarios, but at the same time they feel that they alone cannot fight recession. Government guidance and help is needed and it needs to move beyond highly publicised policy announcements to working groups that can facilitate credit flow and help deal with recession in various other manners also.
Introduction
The credit boom led to widespread prosperity. The credit crunch is also not far behind in demonstrating how globalised and hence interdependent economies are. Since the 1990’s, and especially the last decade, foreign investments, debt instruments and credit fuelled expansion has been the norm for most economies. However, the credit crunch faced by organisations such as Lehman Brothers has led to a global meltdown. What startedp as sub-prime mortgage crisis has led to the credit traps drying up for businesses and also for individuals whose credit worthiness a short time back was beyond doubt.
Some economies have been the worst hit. Iceland is the first country where the government has collapsed and has been forced to resign. The present government is in a caretaker mode with the opposition having unclear answers on how to cope with the recession. Managing inflation during recession is a difficult task (Ethan S. Harris, 193). Ireland has the distinction of being the first country which is part of the euro currency zone that has gone into recession. It may not be the last, however, with Britain already in recession, and the slowdown has severely affected Spain, Portugal, Italy, Greece, Germany and the United States. In fact the IMF predicts that Britain could face the worst recession amongst the most industrialist countries.
The impact of the Irish recession and strategies being adopted by companies to deal with the situation is my focus of research. Ireland is an intriguing case as it was one of the poorest European nations and has gone on to become one of the wealthiest in a matter of two decades. Ireland has experienced double digit growth in the recent past whereas most economies in the recent good times have also struggled to get half of its growth rate. It is important to understand the growth of Ireland, the so-called ‘Celtic tiger’, in the last two decades, the cause and creation of circumstances leading to the credit crunch, and the combined effect of these factors on the Irish economy. This understanding will help drive efforts to understand the manner in which companies are dealing with the recession. Inputs from background research will help identify the research objectives and questions that will be asked to executives of Irish companies.
The Irish economy was an inward looking economy till 1950s (John Bradley 3-46). This changed with Ireland being more outward post this period. This did not immediately lead Ireland to become a big export hub; there was a moderate increase in exports. However, the real benefits arose from the investments that were made in the economy. Ireland’s closeness with Europe in the 1960s led to a period of economic boom till the 1980s. But the recession in 1983 again forced a rethink in Irish business and government strategy. The only positive factor for the Irish economy was arguably the re-emphasis on the European integration of markets.
Even though there was political integration, a lot of non tariff barriers led to limited cross border trade and partnerships. The manufacturing sector did share some commonality with trade developing to a certain extent, but other sectors of the economy were yet to start sharing the benefits of European Union membership. A new legislative process was needed to ensure that countries within the European Union (EU) had similar policies to encourage trade, remove protection from key sectors and allow free movement of labour.
In order to get ready for trans-border EU trade, Irish companies and key sectors were asked to assess their readiness for increased competition. It is important to understand how these Irish companies react to increased competition to their services and how they managed to contribute to opportunities across the EU. In general, Irish companies benefited for the following reasons: high educational standards, technology intensive investments, lower prices, and high quality of manufacturing. The bigger EU member states also had to forego a lot of their protectionist policies. Customers and businesses chose to shift to competitors that offered better quality at a cheaper price, and Irish and other nations’ companies took advantage of this moment. Irish companies also benefited from the ready availability of credit both within the domestic and the EU market, and have benefited from a reduced transaction cost, the negation of foreign exchange risk while dealing within the EU internal market, price transparency for customers and a stringent overview of public finances owing to the guidelines of the EU.
Successive pro-business governments in Ireland have also continued to attract foreign direct investment. The policies of Ireland have been fairly predictable, but by being predictable, the Irish have also demonstrated the vision, methodology and commitment that investors seek for reassurance. The country was seen as a base for starting business in Europe. It is the country within the EU with the highest percentage of English-speaking citizens. The high level of education also meant that highly skilled labour was available for companies to setup their European bases in Ireland. The largest investor in Ireland has traditionally been the United States, mainly because of historic and ancestral loyalties; but the second largest has been Germany, which has no significant historic or ancestral links with Eire. The lower corporate tax rate in Ireland has also lured companies. A special development agency was setup in Ireland to help the government attract foreign investment, and the agency worked closely with the government in helping it formulating strategies for continued industry growth.
The Celtic Tiger – as Ireland has famously grown to be known – now faced challenges that cast doubt over the policies that have bought it progress in the last decades. The global business environment has changed in the last six months, and there is a recessionary effect being faced by each country in the world. Some economies have gone into recession and Ireland is the first amongst euro to officially do so. The world faces a challenge that brings back memories of the great depression. However, what has economists worried this time around is the lack of precedence in dealing with a recession that is this widespread in a globalised world where the internet can mean information whizzes around the world in seconds. Governments and companies are struggling to estimate the extent of the problem, let alone be in a position to predict a turnaround in the situation based on the steps that they have taken or propose to take. But what is the root cause of the problem that the world, and specifically Ireland, faces?
Literature review
Two hypotheses were formulated to assess the credit crunch affecting Ireland and the world economy, the first being that organisations failed to put in policies that would help them deal effectively with a downturn. The second was that cost cutting measures alone cannot be the biggest measures to tackle the downturn. A lot of research has been found supporting the first hypothesis but there is a lack of evidence to validate the extent of the positive effect mere cost cutting measures can bring to resolving a recessionary scenario. Cost cutting measures were assessed in relation to companies cutting costs and not in the context of government spending.
As Davis and Karim (2008) detail, seven systemic crises took place between 1980 and 2000 in advanced OECD countries, with minor crises in the USA, Portugal and Italy, and large-scale systemic crises in four countries. The seven crises account for the severe crises only. There have been many more moderate level crises that occurred in this region. Yet there has been no specific defense built in against avoiding the pitfalls of the last few decades. This literature review identify the presence of systemic failures, but there is not sufficient information regarding research on formulating a global organisation or structure that identifies potential market risk, and advises governments to take preventive actions at the right moment. Gordon Brown, in his capacity as the Prime Minister of UK, has now led calls for such an international organization, with information shared by such organizations as the Financial Services Authority (FSA) and its counterparts in other countries.
Barrell and Choy (2005) suggest that the strength of the Chinese current account was responsible for over half of the decline in real interest rates between the late 1990s and the early part of this decade. Wadhwani (2008) also suggests that the strength of the currency and high inflation was considered appropriate in the UK and the US. The UK was aware that its economy was growing at a fast pace in the last decade and it had grown in strength as the financial hub; yet no major policy reviews to assess the health of the financial system were undertaken, nor were steps to taken to limit inflation or stop the currency from appreciating further. There does exist a great deal of literature on the effects of inflation and its effect on economies but Governments and Central Banks have chosen in the past to have differing opinions.
Davis (1987) assessed that a high rate of debt, along with the increasing risk of default, could lead to an economic catastrophe. This is true in the current environment as it is emerging that most large corporations are running on a business model that involves high reliance on debt. The business models have either been unable to break even, or the profits have been ploughed back into a ‘maddening’, and arguably irresponsible, level of growth fuelled by debt. There are three Scandinavian countries that in the 1980’s have had to re-haul their financial systems due to excessive household debt. Bordes et al. (1993) systematically analyzed the causes and effects of Finland’s financial crisis in the late 80’s and early 90’s, and found strategies relating to financial deregulation as the chief factor of the lending boom and the resultant banking crisis. Honkapohja et al. (1999) confirms the results of Bordes’ study, and further claimed that the Finnish experience was subsequently repeated in countries such as Sweden, UK, Mexico, Chile and Asian countries in the late ’90’s. Saxenhouse and Stern (2002) argued that the low interest rate policy, upheld by the Bank of Japan for a longer period than necessary, was the reason for increasing debt and the real estate bubble on a nationwide scale.
Demirguc-Kunt and Detragiache (1998) found that financial liberalisation makes a financial system weaker and a crisis more likely. With lower barriers to competition and new products that cater to investors, the risk of some products not adhering to basic investing principles is a real risk. Stiglitz and Weiss (1981) propose that excess demand for loans may persist due to asymmetric information between borrowers and lenders that leads to equilibrium credit rationing. This asymmetry may become more costly during economic downturns and makes it very difficult (costly) for lenders to distinguish borrower quality.
Financial liberalization, as the research suggests, can lead to fewer barriers for companies and lower levels of regulatory controls. Sustained liberalisation can lead to less control and the belief that the markets are in a position to reward the performers and penalise those who deserve it. New products and organisations with no licenses to accept deposits from individual account holders have mushroomed in the recent past. Now, post the credit crisis they are being called ‘the shadow banking system’. A composite club of organisations, hedge funds and financial institutions that invented and promoted financial products that, literature suggests, attracted little scrutiny. The asymmetry in information between banks and borrowers grows during a crisis as borrowers start losing trust in the financial system at whose forefront are the banks. The banks in turn start getting edgy about their disbursed amounts while at the same time they continue to seek higher deposits from customers, of course giving paltry interest rates on their savings. Even though borrowers might have a fair credit history, macro economic factors make the banks distrust even the most responsible of the customers. Indeed, the banks end up making far more safer loans at these times as the credit monitoring process becomes conservative.
A review of incidents of systemic banking crises in 69 countries in the 1970s, 1980s and 1990s by Caprio and Klingbiel (1996) reveals a measure of government intervention in every case. As noted by Goodhart (1987) a delayed response to problems may allow a “risky situation to turn into a loss making state”.
Even though across the decades government intervention has followed many a crisis, it has rarely been as literature suggests that government policies have lead to economies avoiding crisis. Government intervention begs the question: “shouldn’t the government have been more involved in overseeing the health of the financial and other key organizations?” There are cases of countries in the developing world, such as India and others, which might escape the year with a positive Gross Domestic Product growth rate. But, in fact, it has been governments in such developing countries that have been long advocates of full monetary conversion. Full monetary conversion in economic crises can result in a run on the affected currency. It’s the conservative Central Banks in the developing countries that have withheld the temptation of full convertibility.
The timing and the speed of the government’s response is also the subject of this literature review. However, there are always differing views it seems amongst academicians and the politicians. While some would want the free market to punish certain organizations, there are others in the government who would consider bailing out these organisations. The recent bailout of AIG with additional funds was followed by a senior US official commenting that the bailout was necessary to save the banking system in Europe.
In addition to government ownership of institutions, several other mechanisms have been used to maintain government control of the financial sector. These included government policy to direct lending, interest rate ceilings, portfolio restrictions, exchange rate controls and capital reserve requirements (Nyawata & Bird, 204). These mechanisms are also present in more developed financial sectors to varying degrees. However, in developed financial sectors their purpose is to ensure system stability and not to advance government policy.
Douglas Evanoff and Lewis Segal have pointed out that the Community Reinvestment Act (CRA) passed by the U.S. Congress in 1970 encouraged lending to people belonging to low income family and those that had poor or inadequate credit history. In fact Douglas and Lewis claim that CRA was implemented rather aggressively leading to lending to risky customers. In fact, not only CRA but aggressive marketing by asset managers seemed to have led to the crisis. The current criticism of the bonus culture in the banking industry has been preceded by the phenomenal growth of the asset books of the banks. Had there been more regulation around the lending process it might have prevented the housing bubble from bursting. The loan officers also seemed to have enough information about their customers. This would have allowed them to build a higher profitability in the fees charged for loan processing.
Edward V. Murphy has stated in a report to Congress that the borrower must be assessed based on his payment potential. Instead the loan officers had been lending on the potential asset value. Murphy stated that sub-prime mortgage lending can be beneficial for families with less access to credit, but it can also entrap them in a spiral of default charges and higher interest rates that all lead down to a potential foreclosure. With so many eventual foreclosures happening and asset prices getting pushed upwards prior to the recession, many families are now finding themselves in negative equity. In fact, one of the challenges before the US government before passing any stimulus measure for home owners would have been whether the banks are to be blamed for the increased foreclosures or whether it is the families themselves who have decided not to pay owing to the negative equity that they find their homes to be in. The regulators seemed to have missed the potential problems that sub-prime mortgages could cause.
Blum and Hellwig (1995) maintain that capital adequacy requirements for banks lead to contractions in loan supply. When banks start facing loan defaults they tend to lend less. The loan defaults start to affect the capital of the bank. In turn the credit agencies start cutting bank ratings thereby causing the banks to have a larger capital adequacy ratio kept aside. All this leads the banks to borrow less. Only if the banks had had a diversified portfolio of loans might they have been able to be better off, despite not actually predicting the approaching recession.
There would appear to be some current research on measures on how to deal with inflation, level of debt, and the mismanagement of fiscal policies that lead to recession, or financial crisis in particular. Yet little research was found evaluating the scenario where consumer debt is less, but consumer confidence is also low. Japanese consumers tend to have less debt and a high amount of savings. However, the economy in Japan has recently contracted again due to the lack of consumer confidence in the wider global economy. There would not seem to be any concise answers in the researched literature that provides a remedy to this problem.
Also absent from the research would seem to be any recent criticism of credit rating agencies. Credit rating agencies were a result of a few publishers who several decades ago began providing financial health information about large organisations. This soon grew into a structured credit rating environment, and large credit rating agencies began assessing small companies to government debts and financial instruments. There is little or no research that points to the role of these credit rating agencies being at the heart of a systematic failure to recognise the impact of their rating decisions on the world economy. The role, effect and continued reliance on credit rating agencies need to be assessed in detail. The following sections highlight the needs for the review.
Methodology
The dramatic effects of the credit crunch have been analysed in the context of what were companies doing that led to, or facilitated, the crisis, and what they actually should have been doing in an ideal scenario. Research being carried out needed to identify patterns in the behaviour of companies pre and post the credit crunch. It was thought that a survey would help incorporate responses from various companies, thereby generating enough data to aid pattern discovery. In-depth interview helped in getting to know the management aspects of an organisation in detail. The research design comprising a survey and an in-depth interview collectively helped create a fine balance between quantitative and qualitative methodologies.
It was difficult to persuade companies to share information regarding management approaches pre and post credit crunch. Some of the information seemed to be confidential (especially in light of the Data Protection Act 1984), some embarrassing and some of it seemed not be relevant to the handling of the crisis. With continued uncertainty amongst world and business leaders on effective ways to deal with the crisis, it was difficult to expect respondents to have clear and concise thoughts regarding what they should have been doing and what they should be doing in these times. It was felt that respondents may also simply attempt to ‘cover their backs’ and ‘pass the buck’ to other individuals or organisations. Hence, it was important that the sequence of administration of the survey research and the depth interview were leveraged to draw maximum insights from the research.
The difficulties in getting companies to share information were also probably due to the fact that I was getting in touch with the wrong set of people who either didn’t have the requisite information or were unwilling to share it with an unknown person. The exposure gained by working with HSBC and AIB helped identify the right people to talk and seek appointments for the primary research and in-depth interview.
First, the survey was administered to respondents and thereafter the depth interview was conducted. The sequence of the research instruments was determined to give some time for analysis of the survey responses. These responses were analysed to measure the completeness of the survey, the nature of the responses and any feedback that the respondents had about the design of the questionnaire. The survey was designed as a quick ‘dipstick study’ to gauge the feedback of the respondents and fine tune any questions if necessary for the depth interview. The in-depth interview was seen as an opportunity to validate the responses of the survey respondents and build on the information gathered till then. The primary research questions were primarily close ended in nature to ensure that the time required to answer them was kept to the minimum. There were few questions which allowed the respondents to share any specific information that they wanted regarding their companies handling of the recession.
The survey was administered via telephone as it was thought to be a medium which would allow the respondents to be flexible with their time allocation. Also, it was possible to give some background to the analysis on the phone. A copy of the survey was sent to the respondents prior to the survey so that it became easier for the respondent to look at available answer options within the questionnaire. The survey was designed in a manner where the respondent could choose not to answer certain questions or give ‘not applicable’ or detail other answers as a response if necessary. The respondents were chosen in a manner similar to stratified random sampling. Four respondents were selected across different industries. The aim was to get at least three respondents to answer ninety percent of the questions completely. The questionnaire was divided in various parts. The initial part was designed to understand the level of impact the companies were feeling due to recession. The respondents were asked to rate the level of impact on a Likert scale. The rating scale was explained to the respondents and was mentioned in the questionnaire. The second part of the survey was concerned with how quickly the companies were able to see the recession coming: whether companies had their own systems and reports in place that pointed to lower sales or pressures on margins, or whether there were external sources of information that first pointed to a downturn. The third part of the questionnaire dealt with what the respondents thought in their view the organisation should not have been doing prior to the downturn. The fourth and final part of the questionnaire dealt with questions of what their companies were doing to get out of recession. The choices that were given to the respondents as part of the close ended questionnaire related to organisational restructuring, cost reduction, lower production, mergers, etc.
Responses were evaluated to understand if there were any specific questions that received a ‘not applicable’ response from the respondent. This would allow for the dropping of the question from the in-depth interview or rephrasing the question if it was necessary to ask to understand the Irish recession. The responses provided less clarity around part three of the questionnaire which related to how and when the companies realised that they were in the grip of recession. This section of the questions seemed important, as if the companies did not realise what the business scenario was likely to be then the same mistakes could be made by the companies at a later date. It was necessary to probe the in-depth interview respondent on this part of the questionnaire and on the fourth part dealing with the measures that companies have taken to tackle recession. At this point data analysis was not conducted, but merely an understanding of the effectiveness of the research instrument was gauged.
One observation of administrating the survey was the development of the research hypotheses. Prior to the survey the hypotheses were loosely structured. The hypotheses were loosely structured as background research and the literature review did not provide clear pointers to the reasons, methods to tackle, and the potential long term effects of the recession. Some of the questionnaire responses helped to check the relevance of the hypotheses for the next phase of research.
To validate the hypotheses, the in-depth interview was chosen as a research instrument because it is a qualitative research methodology that would permit the asking of open ended questions. The approach provided the flexibility to have a semi structured format that was more discovery-orientated, rather than an approach where one went in with perceptions about solutions and then attempting to validate those perceptions (i.e. confirmation bias). The in-depth interview provided an opportunity to seek understanding and interpret results. It was not possible to use another qualitative approach such as focus group as the respondents might have been unwilling to discuss the financial and strategic details of their companies. Also, if a general discussion were sought it might have led some respondents to be less forthcoming in accepting the shortcomings of their companies’ approaches. It was felt that, though the in-depth interview might end up asking sensitive questions about the companies’ strategy, the respondent would be willing to share such information as the research is being done for academic purposes and thus is not commercially motivated. This sort of format allowed the respondent to be placed in the position of an expert where opinions were highly sought and he was given the impression that his perception and description of the problem were of real value. The recession issue, though caused by financial problems, has a ‘human face’ to it, and a face to face interview mechanism is therefore perhaps the best way to bring out the human element in the problem discussion.
Understanding was needed as the literature review was not conclusive in providing answers to what companies should have been doing before the downturn or what they should be doing to tackle the after effects of the downturn. Because this approach is conversational in nature it allowed the researcher to ‘take a backseat’ and just listen to a large extent to what the respondent had to say. The in-depth interview was not selected because it offered a quick answer. In fact, the in-depth interview provided responses that were needed to be studied in the context of the literature review.
Respondents were selected from an organisation having their headquarters in Ireland. Companies that had their bases outside Ireland but had some operations in the region were not chosen as the key decisions might have been made outside Ireland. Companies that used Ireland primarily as manufacturing hubs were also not selected for the in-depth interview as they might not be facing demand pressures primarily from Irish markets. Their customers might be based globally, but only because their operations are in Ireland would be making some decisions that could be affecting the Irish economy. Financial sector respondents were not selected or sought for in-depth interview as there has been a substantial amount of information about this sector already published in the mainstream media. Selecting the financial or financial services related sector would have also limited understanding of what the recession means for multifarious sectors. The fact that the economic downturn began as a financial crisis waning consumer confidence has meant that other sectors too are as severely affected by it. Background research also points to the fact that other sectors are also going through a ‘rough patch’ with pressures both on revenue and margins.
The key influential stakeholder was identified for the in-depth interview and his time was sought to carry out the depth interview. Questions were based on the responses generated by the survey questionnaire. A leading and probing style of interview was used to guide the conversation forward in case the key questions would fail to motivate the respondents to respond, and thus not generate sufficient information to analyse.
Interview preparation was conducted by conducting background research of the organisation by going through their website and studying the financial data available. The fact sheet was used to capture the respondent details, the demographics of the respondent and any other special circumstances that the organisation or respondent was going through while answering the questions. The comment sheet was used to document in detail the responses and also to highlight a few key points that could be used as a research guide later on. The comments were then incorporated in the final questionnaire.
Respondents were assured that their information would be used for academic purposes only and any specific data would be masked to prevent identification of the source. A written consent form was taken to the interview. During the interview an attempt was made to establish a rapport with the respondent. An active listening approach was maintained with flexibility given to the respondent to deviate at times from the core of the topic in order to facilitate a relaxed atmosphere. The active listening approach was used as the respondent felt that they needed to provide additional background about their companies operations. Any business environment operation information that the respondents gave was noted. Care was taken not to pose multiple questions at one time. Unclear responses to questions were verified while maintaining the overall time limit of the interview. Though open end questions were asked, leading questions were avoided. Background research on the two sectors and the operations of the two companies was conducted via secondary sources of information and that helped in leading the conversation forward. The observations were recorded as notes and an audio recording was made to ensure that a playback of the interview was possible for future analysis.
It was felt important to have a mixture of quantitative and qualitative research methodologies as the sample size of the research wouldn’t have met any statistical significance criteria. Also, it was not possible to seek in-depth responses from all the respondents and it was also important to validate some of the responses that could have been encountered in the primary research questionnaire. On my part the focus was to build a rapport with the respondents in the shortest time possible and to explain the background of the research to the respondents; not to explicitly state the hypotheses as that may influence the respondents but to still provide as much background information as possible; to have as much knowledge as possible about the domain and organisation of the respondent and fill in all the details of the response as accurately as possible. I had to be prepared for interruptions to the interview as the respondents might get disturbed whilst the interview was being conducted.
Objectives
The objectives of the research were:
- To study the severity of the recession
- To identify the effects of the recession on various industries and business aspects
- To ascertain if the organisations were able to predict the downturn to any reasonable extent
- To find out if cost cutting is the biggest weapon against fighting the recession for organisations
- To ascertain what are the lessons to be learnt for governments and organisations
Data Analysis
Data was available from four primary research questionnaires and one in-depth interview. The sample size of the survey and in-depth questionnaire was small compared to the generally acceptable norm of 30 plus data points to conduct a statistical analysis of the available data. Hence, there has been no mention made of the confidence limits or correlation amongst variables in the following sections. Instead, the data was analysed based on each questions responses. Later, related questions were grouped together to understand the linked responses. This was an attempt to get to the larger picture.
Primary research analysis:
The respondents held Middle Management and Strategic Management positions with one of the respondents being a Chief Finance Officer (CFO). Three out of the four respondents considered that the recession has had a negative impact on the revenues, with two of the respondents stating that it has had some adverse impact and one saying that it has had considerable adverse impact. One response suggested that the recession has had a positive impact on revenues. It would be interesting to find out if specific companies or industries have experienced that the downturn is leading to increased revenues. It would seem intuitive that people specialising in redundancy law or low-cost supermarkets like Wal-Mart, Lidl, Aldi, etc should be doing good business in the economic downturn. In similar ways take aways and certain grocery stores might be doing good business in comparison to dining out outlets and restaurants.
The respondents who mentioned that they have seen some adverse impact on revenues think that sales are the organisation’s biggest concern, whereas the respondent stating that there is considerable adverse impact on revenues thinks that profitability is the organisation’s biggest concern. The CFO regards corporate debt as the biggest concern. Could it be that the two organisations which have seen only some adverse impact are not forced to discount to an extent where profitability becomes a concern, whereas the organisation having profitability concerns is discounting heavily? Even without discounting, the organisations in the market might have already been facing margin pressures owing to the sharp rise in commodity prices and energy prices. Hence discounting might not have significant weight on profitability compared to rising raw material costs.
Opinion seems to be divided when it comes to the question of whether organisations have been able to forecast the economic downturn. All of the respondents said that their organisations used macro economic indicators to study market environments whereas one respondent also pointed out to the use of external consultants. The majority of the respondents seldom rely on the credit rating agencies. Reduced inflation is the top answer for organisations to deal with macro economic factors. Availability of cheaper goods and services is the second most popular method for respondents. Cost cutting and product brand rationalisation are the strategies that all the respondent organisations are using as a tool to deal with recession.
While organisations seem to have failed to track the economic growth chart accurately, they seem to be less reliant on credit rating agencies which should at least protect them from losing their rating or having troubles in seeking working capital if need be. Reducing inflation and the availability of cheaper goods and services seem to mean similar things. However, reducing inflation is more of a commodity price increase problem while cheaper goods and services seems to be more of a sourcing problem. Cost cutting seems to be done by not only the respondents but all industry sectors as such. What is interesting is that all the four organisations surveyed mention that they are also doing product brand rationalisation. This can mean multiple things. Either the organisations are reducing the number of products, re-branding products, selling certain products, closing products/product lines or acquiring new products. The last option seems to be the least likely as any organisation in the prevalent market would want to preserve as much cash as possible and any equity deal will not find preference with the seller of the brands owing to the weakness of the equity market. However, having said that, owing to low valuations it could be a good time for acquiring brands.
All the respondents feel that their organisation is better suited than their competitors to deal with the recession. The respondents feel that their organisation will take a similar period of time as the Ireland economy to recover, or possibly slightly longer. None of the respondents feel that their organisation will outperform Ireland’s economy. Discounting and new products or services are the strategies that all respondents’ organisations seemed to be adopting to fight and survive the economic downturn.
The organisations seem to have the confidence required to override the economic downturn. Discounting might be a forced strategy that one of the larger competitors might have taken. Sometimes this can also be a loss leader strategy where the major competitors take such a position to save their own sales and pressurise their competitors. At the same time, designing and offering new products and services would also be a cost drainer for the organisations reeling under the effects of the downturn.
All the respondents mentioned that the biggest hurdles being faced by their organisations in dealing with recession are consumer confidence and cash flow. They all also expect their organisation to survive the recession. Even though three of the respondents are in management positions it would be interesting to wait and watch whether their confidence ‘stands the test of time’. Although they might have spoken in the context of information available to them, debt negotiations if any might be privy to a select few in the organisations. The question was still relevant to ask as it did not just specify if cash flow was in adequate amount to survive the recession. The question was aimed at getting response from the context of branding, sales, profitability and other aspects.
Only the organisations that said they had increased their revenues had experienced an increase in footfalls as a result of discounting. Other respondents say that brand erosion is being caused by discounting. Poor perception of quality is also one of the responses. All of the respondents do believe that cost cutting is helping their organisations.
In-depth research analysis:
The most striking thing was the analysis of the discounting measures that the respondent shared. In his view discounting might help. But, it is subject to a lot of things falling in place for his organisation. Less competition, a pick-up in sales, and erosion in competitor brands are some of the things that would be welcomed by him. However, this does leave me with the thought of what will happen to the economy and industry specifically if the brand value of certain players gets eroded, they lose sales and eventually end up bankrupt. Surely some jobs will be lost and they could be gained in organisations so it may be these respondents that will benefit? But will the net sum of this all be balanced out? Wouldn’t some organisations become suddenly powerful with a larger ‘share of the pie’ and end up probably driving prices upwards in the long run?
Cost cutting seems to be working for the organisation. More important is the respondents’ comments regarding cost cutting being in the focus after a period of boom. It is very easy for organisations to forget about the need to cut costs or control costs at times when the revenues are increasing and the whole economy is doing well. But these are the times when commodity and energy prices increase. This is followed by an increase in salaries which pushes up the overall wage bill. During these times it is necessary for organisations to seek cheaper alternatives in sourcing and keep negotiating with vendors to ensure that they are protected against steep price hikes. Unfortunately, this is the time when organisations might be tempted to focus their least energy in this area.
Though the respondent has discussed the aspect of debt to equity in great detail it is a valid point, considering how many companies are going into administration or filing for Chapter 11 bankruptcy proceedings in the USA. A lot of these companies have been expanding at a phenomenal pace. Even though their same store sales might not have been increasing, they still seem to have gone ahead with new store sales. Equity driven growth might still have made the recession easy to deal with but it seems that many companies might have built up a considerable debt to equity ratio.
Conclusion
A great many indirect questions were asked to verify if the organisations indeed failed to spot the recession. Contrary to this, a lot of direct questions were asked to understand if cost cutting measures alone can help the organisation in dealing with recession. The literature review and data analysis have helped reach the conclusion that organisations failed to spot the recession. It also seems apparent that cost cutting alone cannot be the biggest measure at an organisation level to deal with recession.
Ireland is in ‘the thick of it’, being the first Euro country to go into recession. Economists who earlier predicted that there might be an upside to the global economy in the current year seem to have pushed all their hopes onto next year. The first 50 days of the new US Presidency have seen global equities fall to record lows. The DOW index is trading at a 12 year low while the FTSE too has lost all the gains made in the past few years. China which seemed to be stating that it would be shielded from the world wide crunch is witnessing massive layoffs across factories producing cheap consumer goods for Western consumers who are no longer buying them at previous volumes. Recently, at its party conference, the Chinese leaders warned that the current year will bring the greatest challenges that China has ever faced.
What has fuelled this is the cheap availability of credit. Organisations seemed to have adopted cost cutting measures only as a reaction to the recession. The so-called shadow banking system and large banks extended credit lines to organisations and customers beyond their logical credit limits. What has happened is a lack of consumer demand in certain areas owing to high commodity and energy prices. This seems to have been followed by a loss of consumer confidence that has been continuously fuelled by the drying up of easy credit availability. While small and large organisations keep getting affected by withdrawn or reduced credit lines, consumers are also seeing their credit cards being cancelled or credit limits being shelved.
The literature research shows that customers were in a way bribed into risky mortgages with little or no money down, setting up a path for default. As many customers bought into the idea of risky mortgages, assuming that the value of their properties would increase, the value of houses and all property in developed economies began to decline, just as many families and citizens were getting ready to refinance their homes. Unfortunately, many borrowers were stuck in a situation where they had to put even more money down when it came time to refinance, all because of house prices falling. Companies that had insured and bought these portfolios of sub-prime mortgages took a hit with the default rates increasing. Investors had little knowledge of the kind of assets that the shadow banking system was holding. They had little reason to investigate the nature of the assets when they were getting healthy returns. The shadow banking system had very few assets and was thriving on the trust of the investors and the free credit available. All this came crashing down with the fall of Lehman brothers.
Countries like Ireland had based much of their financial reform on the basis of larger economies like the US economy which encouraged lending to families that could not access regular credit lines. Even if these countries did not follow the same policies of encouraging lending at a regulatory level they did have money flowing in from investors, and the EU of course too. As the literature research suggests these investors were taking advantage of the differential interest rates. With increased money flow, banks and institutions started taking riskier positions and new and riskier products also seemed to appear on the market.
That the regulatory environment was flawed is apparent from the CRA discussion in the literature review. While the legislation to increase lending to families without access to regular credit seemed to be a measure designed in good faith, it did not specify how companies could deal with exposure. The manageable exposure snowballed to a problem of huge magnitude and proportions with poor foresight of regulation. The regulators in the US, the UK and Ireland also don’t seem to have specified an exposure limit for financial institutions. Conservative Central Banks in the under developed countries tend to at times suggest exposure norms of financial institutions towards a particular sector. Let’s say if the regulators had directed or suggested at least that banks should not have more than 10 percent of their capital exposed to home owners, then the percentage hit that bad loans would have had on capital would have been relatively manageable.
Regulators definitely did not see the recession coming; nor were they better prepared to understand the length and breadth of the recession. Economists and governments had been claiming that some economies and countries would be shielded from the recession. In fact, the Euro gained significant strength against the dollar during the last quarter of 2008. However, the Irish recession, followed by the German recession showed the scale of the impact on the Euro.
Systematic failures of the regulators seemed to have been mirrored in the normal regulatory work that should have been done. Recently, one of the flamboyant investors in the game of cricket was accused of having financial products that promised large returns and in the end caused losses for a few billion dollars to the investors. What is interesting is that the regulators had as early the 1990’s assessed the concerned banks’ books but could not find any proof of wrong doing. Later, a fine of a few thousand dollars was made in a series of investigations. Still nothing major was done to stop the development of the supposed scam. The systematic failure is even more apparent from the handling of the Madoff scandal. Accused of running a Ponzi scheme he was arrested and released on bail for a fraud upwards of 35 billion dollars. The regulators failed in stopping him from promising investors audaciously high rate of returns – and for decades, too.
The regulatory problems don’t end here. There is still a lot that needs to be done to have a relook at current policies and maybe, as Gordon Brown suggested in his address to the US Congress, we do need an International financial watchdog. The TARP funds were meant to infuse new life into banks, car giants and any other beneficiaries. But when certain lawmakers wanted to know how the borrowed tax payers’ money had been used they drew a blank. Most companies are unable to tell how exactly they used the money. Did they use it for debt reduction, new products, research investments, dividends, bonuses or towards operational costs? The use of the money could have provided an idea of how much more aid companies could need, but the companies just don’t have the details. But isn’t this a continued regulatory error? Money was doled out citing that something needed to be done urgently but there was no detailed accounting standard or reporting provision put in place that would make it mandatory for the companies to report back on how the money has been spent. To be fair to the regulators, everyone is expecting them to come up with answers to all the problems and this might be adding pressure on them. But then, it is reasonable expect basic policies to be put in place around reporting what tax payers’ money has been used for.
There are a great many issues that could be pointers to a recession that the regulators failed to notice, which can be due to outdated measures to track growth. In the US the regulators have policies which direct companies to declare to give prior notice and declare the number of blue collar workers getting laid off. These measures were introduced decades ago when it was assumed that recessionary effects are felt greatest by blue collar workers. This recession, however, is illustrating that even white collar workers are at similar risk. There is less clarity on how all white collar layoffs get reported. Because of this a lot of companies might be laying off staff even prior to the recession being formally recognised. All such layoffs might not have caught the attention of statisticians and policy makers who may have missed these unusual trends. Similar regulations could exist in Ireland and the rest of the world in future. What is needed is a relook on how various policies were framed and what their relevance is in today’s context.
All research respondents have said that the downturn has impacted their revenues and a majority of the respondents have said that it has had a negative impact on revenues. The respondents have also said that cost cutting is one of the measures and an important measure for their organisation. However, at the same time some of the respondents have said that cost cutting is not the only measure that their organisations should be using. In fact, in the effectiveness of measures to deal with recession some of the measures rank higher than the measure of cutting costs.
Organisations with a higher debt to income ratio, reducing revenues, additional discounting and facing brand erosion are most likely not to survive the recession or come out of it in a bad shape. It is not going to be easy for organisations to refinance their debt on preferable terms if at all, and if they can get any refinancing in the first place now that credit has dried up.
In fact, product rationalisation seems to one of the outcomes of the cost cutting exercises. But at the same time organisations are trying to take a longer term view and face the recession head on. They seem to be investing their efforts in new products and thereby trying to better target the need gap. A new product offering may not be a bad idea after all as discounting products could be labelled under a new brand. Customers might be loyal to an organisation but that organisation might not have a product that meets all the need gaps of the customer. Accepting the fact that cost cutting is not the only measure and resorting to other, different strategies to deal with recession seems to be the best way forward for organisations.
Though this research was challenging it could have been more insightful if there had been enough literature research to examine the extent that cost cutting alone can help organisations. Some governments are increasing their debt, with Britain having recently announced quantitative easing as its next step to ease liquidity concerns. On the other hand, organisations are cutting costs by shelving production, reducing staff, re-negotiating contracts, reducing hours or days worked, cutting pay, and holding back expansion plans. This conflict of approach needs to be evaluated separately to understand whether cost cutting or increased spending can revive the economy with fewer likely problems to deal with at a later date.
Recommendations
The recommendations range from regulatory, predictive models, government and industry coordination, and further research into cause effect and remedial measures. While it is impossible to fully and accurately predict a recession and have a set of ready made measures to deal with the problem, there still can be better controls and methods put in place to deal with recession. The one unpleasant truth about the current recession is that governments have been woefully unprepared to deal with the recession. On the positive side, there are the G20 and other financial summits where European and American leaders are trying to work out economy stimulus measures on a global scale.
Liberalisation and deregulation of financial markets have created a scenario where the shadow banking system and fraudsters like Madoff have been able to operate unhindered for decades, and short-term profit was the only motive. To say the shadow banking system comprising of hedge funds and other institutions are bad for economies is maybe a farfetched. But what is certainly required is a set of regulations for overseeing the source of funds, the nature of investments and the promises on returns being made. The shadow banking institutions have been at the forefront of investing in sub-prime mortgage and other risky instruments. When stocks started their free fall in September 2008, exchanges around the world had to step in a stop speculative trading in certain stocks. All these things point towards a need for tougher regulations.
The government and industry need better coordination to help each other understand the cause-effect relationship of the recession. The areas in which government can help range from helping pre-empt the crisis, estimating the effect of the crisis and putting in place policies that can help the industry grow substantially post the crisis. Organisations, as found from the research, have few resources to understand the underlying sales trends and whether it is a case of a slight slip in consumer confidence, localised growth phenomenon, loss of market share or a real recession. The government can share its reports and conclusions in a summarised manner that is easy for the industry to understand without help from statisticians and modelling experts. Many organisations seemed to be confused about the extent of the crisis and how exactly it would affect them. Without this knowledge they cannot be expected to put in place the needed remedial measures. The measures, such as job cuts and withholding of expansion plans, could prove detrimental in the long run if the extent of the crisis is not properly understood. An organisation may end up losing a lot of skilled workers in a hurry to reduce costs and overheads, but if the economy improves sooner than expected then it might be left in a position struggling to hire people back, because skills will have been lost with staff. The organisation may end up re-training its permanent staff to take over contractor positions. However, if the economy turns round quickly then the organisation may find that the cost of training far exceeds the short term nature of requirement it had from the contractors. Withholding of expansion plans may be a necessity thought up by the management, the lenders or the shareholders. But this again might be done without understanding the economy of the localised market or the consumer confidence, or lack thereof, within that market.
The primary research and in-depth interview analysis highlights the fact that the organisations do not know what effect all the combinations of measures might bring along in the long term. They seemed to be solely concerned about discounting, brand erosion and profitability. All these measures can have long lasting effects for the brand. There is also the danger of deflation. In the recent past, governments in economies experiencing high growth, such as Ireland, were worried about the increasing effects of inflation. However, the real concern now is the risk of deflation. Deflation can happen if consumers put off spending as they expect prices to fall further. This could well lead to a further build up of inventory and maybe further job losses. This downward spiral would need longer to be reversed and it is best for industry if deflation can be avoided. This should start with governments in the future researching along with the industry what set of measures and to what extent they should be used by industry so that risk is contained.
Governments need to re-haul their own securities and exchange commissions, along with the metrics and reports that get published. In some areas legislation maybe needed to introduce new sets of measures. The talk of having an international financial regulatory body is encouraging as we are witnessing the global effects of the recession which to an extent had its roots in US. On the flip side of things, governments need to realise how much they can afford to borrow in the future. Already the fiscal deficit as a percentage of GDP in most countries is at an all time high level. If another recession is experienced in the not so distant future, can governments afford to bail out themselves and the industry with such high levels of borrowings? In the UK the government announced a rate cut of 2.5% on value added tax. However, the policy document of the government envisages a potential increase in value added tax in the future to a new all time high level. Any borrowing by the governments could, and almost certainly will, result in tax rises in the future for future generations to pay. This may undermine consumer confidence that would have just been able to regain some lost ground. Better preparedness and coordination with industry should help pre-empt and nullify the recession to a large extent. But one thing is certain: whatever governments and organisations decide to do, it’s not going to be an easy ride, but it will certainly be a long and arduous one.
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