Ioannis Ioannou
Associate Professor of Strategy and Entrepreneurship
Survival clues from the Great Recession
This isn’t the first time business leaders have been forced to make tough decisions in a crisis. What can you do to survive it?
In 30 seconds:
- The imminent recession does not have the same cause as the 2007-2009 one but some of the symptoms are similar so there are lessons to learn
- Investing in both R&D and stakeholder relationships even in hard times is a better route to survival and success than simply cutting back
- This moment will be a test for advocates of “responsible capitalism” – can they live up to their ideals and prove it works?
“History does not repeat itself,” the writer Mark Twain is supposed to have said, “but it sometimes rhymes.” In the context of the current Covid-19 crisis we might equally say: this recession is not quite like any other in recent history – and yet there may be lessons to learn from past experience which could be useful to leaders today.
With this thought in mind it is worth listening closely to the insights of Ioannis Ioannou, Associate Professor of Strategy and Entrepreneurship at London Business School and co-author, with Caroline Flammer, Associate Professor of Strategy and Innovation at Boston University’s Questrom School of Business, of a research paper detailing companies’ response to the Great Recession of 2007-2009.
In the latest LBS webinar on leading through a pandemic, Dr Ioannou explained how companies that came out of the last global recession had done so.
First things first: these two recessions are not the same. The 2007-2009 crisis came about after an endogenous shock – that is, the financial crisis. The recession of 2020 is being caused by an exogenous shock – by something outside the economic system entirely, ie the new coronavirus. This has in turn led to government measures to shut down the economy to preserve human life and health systems around the world.
Common to both recessions is the fact that in a macroeconomic crisis the whole economy suffers, and the space for strategic manoeuvre gets smaller.
In 2007-2009 there was a collapse of the financial sector and a contraction in GDP that was the worst since World War Two. It was disruptive across all sectors. There was a 5% fall in US GDP, with a severe contraction between December 2007 and June 2009. As many as nine million jobs were lost. Unemployment rose from 5% to 9.5%, and was as high as 10% in October 2009.
Periods of major economic crisis are typically associated with significantly greater uncertainty, changes in regulatory and policy frameworks, higher cost of capital and tightened access to credit, and major disruptions in supply chains.
There will be deteriorating or even collapsing consumer demand, and an increased risk of firm failure. Sometimes there will even be “cleansing” of entire industries or reshaping of their boundaries, as we are perhaps seeing in the airline industry today.
In this kind of meltdown no aspect of a firm’s business environment remains unaffected, often prompting a fundamental rethink and reshaping of strategies by firms to ensure survival and sustain (or even enhance) competitiveness.
“In this kind of meltdown no aspect of a firm’s business environment remains unaffected, often prompting a fundamental rethink”
So how did US companies adjust their strategic choices in the 2007-2009 recession? Dr Ioannou and Dr Flammer looked at a total of 3,500 US public companies – 670 in greater depth – considering their actions and performance.
Some businesses set out their position clearly. Robert Lardon, Corporate VP, Strategy and Investor Relations at the engineering company Harman International, announced: “When we emerge from this downturn we will emerge leaner, more efficient and more technologically capable. This has been both a business mandate and a cultural imperative for us.”
Research by the consultants Booz and Co (since acquired by PwC) published in Strategy and Business magazine in 2009 found that, in their annual study of the world’s biggest corporate R&D spenders, “most companies have stuck with their innovation programmes despite the recession – and many are boosting spending to compete more effectively in the upturn.”
Intel’s then CEO and chairman Craig Barrett shared this approach. As he told Fortune magazine in that same year:
“You can’t save your way out of recession – you have to invest your way out. We look at our CSR activities in pretty much the same way. You can’t just do them in good times and then just forget about them in bad times and hope to get the same results.”
These business leaders identified a fundamental trade-off in how we manage our response to massive crisis.
The then CEO of Starbucks, Howard Schultz, explained his view in the Huffington Post in 2008:
“Now is a time to invest, truly and authentically, in our people, in our corporate responsibility, and in our communities. The argument – and opportunity – for companies to do this has never been more compelling.”
Likewise, Dr Ioannou argues that now is a good time to resist doom and gloom and take a good look at your options. It is a good time to invest: look at your portfolio of strategic investments. How should your strategy look if you are going to survive this moment and be more competitive, resilient, viable?
“Look at your portfolio of strategic investments. How should your strategy look if you are going to survive this moment and be more competitive, resilient, viable?”
As Dr Ioannou says, “In rapidly changing environments, a company’s ability to establish and maintain a competitive advantage critically depends on continuously reconfiguring and adjusting its strategic resources to the new or fast-evolving circumstances.”
But of course this is easier said than done. A crisis like the current one tends to exacerbate constraints on resources. Companies face major strategic trade-offs that are very hard to address:
- Tight financial budgets may lead to cuts in investment to maintain necessary liquidity.
- Disruption in stakeholder relationships (eg customers, suppliers) increases overall uncertainty, and this may increase the risk of existing investments.
- Therefore companies also switch to short-run survival mode, and do not really consider a long term horizon when taking decisions.
- A key trade-off may arise between purpose/mission and profitability.
Leaders face a range of options and trade-offs. For example: you could divest certain assets to maintain liquidity – but this involves a balancing act: what if you sell off too much? Perhaps this would make you less competitive.
You could retrench or reduce your scope of activities, or focus on efficiency, or restructure. Or you could invest your way out – buy equipment at lower cost or hire people at lower cost, or invest in capabilities. Or of course you could just switch into survival mode and forget about the future.
In Dr Ioannou’s view it is better to stay true to your company’s mission than being ruled by short-term considerations.
In their study of 3,500 US companies the researchers considered four main areas of activity and the strategic choices which followed: decisions on workforce issues, capital expenditure (on physical items – property, plant, equipment), research and development, and stakeholder relationships (using KLD [ESG] measures to compare performance).
Save and invest your way out of trouble
Their main finding was that, while successful businesses may have reduced their workforce costs and capital expenditure, they kept up investment in R&D and stakeholder relationships. It was a two-pronged approach. They saved their way out of trouble but also invested their way out.
Why was this so effective? It turns out that intangible resources and capabilities become particularly valuable in times of crisis. They allow you to adapt to shifting circumstances. Intangible capabilities help companies to become more innovative, resilient, and adaptable.
“Intangible resources and capabilities become particularly valuable in times of crisis. They allow you to adapt to shifting circumstances”
There are other benefits to keeping up R&D and stakeholder investment. This approach may enable firms to find novel ways to become leaner and more efficient. It could allow firms to experiment and explore new collaborative practices, improving their technological and innovative capability.
Better stakeholder relations could help spark innovation and may improve efficiency through improved employee motivation and decreased supplier disruptions.
During the 2007-2009 crisis, Pitney Bowes, the postal service business, invested in an idea generating process, and built a new digital platform called IdeaNet where 30,000 people could collaborate on new ideas and add value in different ways. Within two years the firm had generated $8m revenue from their employees’ ideas.
Starbucks increased its subsidy to coffee farmers in developing countries, ensuring sustainable production and the supply of ethically sourced coffee for the future.
Organisational resilience
- Organisational resilience grows as a result of investment in stakeholder relations and innovation capability.
- Performance in the midst of crisis becomes a source of resilience.
- This sends a strong signal about the centrality of corporate purpose and the commitment to purpose.
- This all serves to improve reputation, brand, legitimacy and trustworthiness.
- Better stakeholder relationships allow you to gather more information, leading to better informed and superior decision-making. You can integrate diverse sources of information. You get more honest feedback, and more timely, high quality information.
Time horizons
Action is required with regard to the short, medium and long term.
In the short term you need to manage cash flow. But cuts can erode assets, capabilities and culture for the medium term. Cutting costs is the most common response, but not the only option.
In the medium term you need to maintain or preserve resources, taking account of revenues, assets and capabilities. But it could be risky to move too fast before the realities of the new situation have become clear.
In the long term you are aiming to create strategic renewal. The crisis will change the environment and customer expectations. Renewal will become unavoidable but also valuable. You will build a business model fit for the new world.
The future
This crisis will end, eventually. So how well will your company have performed? “The world is watching,” Dr Ioannou points out.
During the great recession of 2007-2009, Dr Ioannou and Dr Flammer’s research showed that those companies which remained committed to R&D investment performed 19% better in terms of return on assets.
The companies that kept up investments in stakeholder relationships did an extra 10% better. And those who did both – following the two-pronged approach – performed best of all.
Responsible capitalism
The current crisis represents the biggest challenge yet for responsible capitalism, Dr Ioannou says. It is hard for CEOs to keep everyone happy at a time like this. But CEOs have critical decision-making power. They could also work with government and civil society to improve the situation.
People hold high expectations for business. Some are stepping up: Louis Vuitton is making hand sanitiser, Airbnb is offering housing to Covid-19 responders, and Amazon has set up a relief fund for its workers with Covid-19 and offered support for small businesses.
And in case business leaders did not realise this, the world is watching. The research firm Just Capital is building a corporate response tracker, studying what companies are doing.
Dr Ioannou suggests CEOs ask themselves the following questions right now:
- What can I do to ensure that my company’s purpose and mission guide and inspire and is/ fully consistent with my company’s short-term and long-term actions?
- How can my company’s resources and capabilities be utilised to improve collective wellbeing and for addressing the most urgent societal needs.
- What can my company do to shield my stakeholders, including employees, customers and suppliers, during the crisis but also in the long run? Intangible assets are for the long run.
- How do I ensure that survival mode and the instinct to protect profits do not hijack long term stakeholder-oriented decision making?
He quotes Paul Polman, the former Unilever CEO:
“The greatest business leaders will play a longer game to serve the societies which host them in this moment of great need, offering people security and stability as an antidote to panic and fear.”
And as the Stanford economist Paul Romer famously said: “A crisis is a terrible thing to waste.”
Beyond the crisis: an LBS webinar series
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