Approaches to Financial Crisis Management

LITERATURE REVIEW

The following Literature review starts with past studies and researches based on the crisis in general. Different types of crisis are referred and what kind of effects do they cause to businesses and people. Additionally are past studies on management strategies in period of recession and what does a business has to follow, not only old businesses but also new. Furthermore we focus on the new start up businesses that decide to grow in period of crisis. What Past studies and researches found and proved through history, when again in the past there was a recession.

Crisis

A crisis is an adverse incident with an unpredictable outcome (Campbell, 1999; Coombs, 1999; Coombs & Holladay, 2002; Ruff & Aziz, 2003). Interestingly, it should be pointed out that there is a wide range of crisis categories, from a basic ‘internal versus external’ introduced by Evans and Elphick (2005, p. 135), to a more complex system proposed by Henderson (2007) who categorized crises into economic crisis; political crisis; socio-cultural crisis; environmental crisis; technological crisis; and commercial crisis.

Although there are numerous approaches to crisis categorization, The Pacific Asia Travel Association (2003) has suggested that crises can be largely categorized into two major types, which are human-made and natural-made crises.

It is crucial for one to understand that not all types of crisis lead to the same consequences, differing from one another in terms of the scope and extent of damage caused (Aktas & Gunlu, 2005). Different public reactions to both human-made and natural crises provide a clear example of the critical differences in the public’s reaction to different types of crisis. The public normally reacts more negatively to the effects of human-made crises than to those of a natural crisis. While it is generally conceded that organizations have little control over natural crises, human-made crises can devastate the established reputation of an organization. As human-made crises are usually preventable, this type of crisis therefore often receives severe public condemnation (Pearson & Mitroff, 1993).

Furthermore, different crisis types, particularly both natural and human induced crises, are neither absolutely predictable nor avoidable. This means while crises occur rarely and randomly, it is also true that no industries are unaffected by those crises. In response to the near certainty of experiencing crises, it is suggested that organizations come up with a plan for minimizing the damage of, and accelerating the recovering from, such crises through the development of crisis management strategies (Faulkner, 2001).

Therefore the concept of crisis management is discussed below.

Crisis Management

Being able to effectively respond to a crisis is critical for the survival of an organization.

Whether an organization is prepared or not for a possible crisis usually depends on senior officials and other private operating within organizations. More importantly, studies have shown that organizations with an established crisis management approach are able to effectively communicate and respond in the event of a crisis (King III, 2002). Clearly, it is crucial for an organization to have a crisis management approach in place.

In general, a crisis management approach can be viewed simply as involving the ‘4 Rs’ of a four-stage process, which are reduction, readiness, response and recovery (Evans & Elphick, 2005). The Pacific Asia Travel Association (2003) has summarized and described each stage as follows:

1. Reduction. In this phase, an organization’s analysis of strengths, weakness, opportunities, and threats (a SWOT analysis) will help the managers to assess a potential crisis and to prepare a contingency plan. After identifying potential crises, organizations need to be prepared by developing strategic, tactical and communication plans.
2. Readiness, the second phase, crisis response and crisis simulation exercises are very important in order to acquire and maintain crisis management skills as managers and staff need to be ready for the impact and stress from crises.
3. Response, the third phase, a contingency plan is implemented immediately after a crisis occurs, as organizations that have a well-established crisis management plan tend to be more successful in handling crises.
4. A crisis communication strategy should be utilized to communicate with not only the customer, but also the stakeholders and the public.
5. Recovery. In the last phase, the crisis recovery could be measured by the speed with which an organization resumes full business operations; the degree to which a business recovers to pre-crisis levels, or the amount of crisis-resistance added since the crisis occurred.

Whilst corporate managers are faced with the reality of trying to implement this process (Evans & Elphick, 2005), it should be noted that all stages of the crisis management process need to be flexible, which allows for potential evaluation and modification, depending on the nature of the crisis/disaster (its magnitude, scale and time pressure) and stakeholder response to strategies. Although crisis management is a requirement for organizations, and although business leaders recognize this, many do not undertake productive steps to address crisis situations. Managers who do take productive steps however will be in a much better position to respond when a crisis or disaster affects an organization or destination (Ritchie, 2004). So, because a start up business in time of a recession has knowledge of all the stages, it is easier to handle the crisis as they are aware of the consequences a bad economy has on a business. Measurement are been taken before they have any bad influence on their business from the recession.

Start-ups business and existing business in time of recession

First of all, we are going to study past studies that were done during a period of recession and see how they coped during the period. Small businesses in their starting period are responsible for the New England turnaround and the Massachusetts miracle in the early 1980s. Small businesses had the willingness to expand and form and were the reason the economy became so strong (Lamp, 1988). It was found by Birch (1987) that the keys to new job creation are pioneering firms. Stable economies that can offer a proper environment for start-ups and existing firms to expand and grow but on the other hand those that cannnot offer such an environment usually suffer. With the reason that large businesses are reengineering, resizing and most importantly, downsizing, many people are leaning towards small business as a reason of economic expansion. In 1994 Dun & Bradstreet anticipated that 3.1 million new jobs would be created with 72.4 percent following up from new firms with less than 100 employees. New small firms with less than 20 employees have also been seen as the creators of new markets for large firms and as the nation’s job creators (Phillips, 1993). As from this example, it is clear that new businesses and especially a small one can survive and also take advantage of the recession, if handled in the right way. Small businesses are considered to add to the local economy and therefore invigorate the economy (Violaris, Harmandas and Loizidis, 2012).

When there is an economic recession, it is a period where all firms are struggling for their survival, especially for new firms and start-ups the failing rate proved to be higher compare to larger companies (Latham, 2009 p180-201, Lawless and warren,2005). However, some scholars have argued that smaller firms (start-ups) can have their own unique competitive advantage since they are closer to the market and realize the customers’ needs more easily (Young and Shepherd, 2005, Tavakoli and McKierman, 2009)

There are several success factors that new companies can adopt in order to survive the crisis or event to expand in this recessionary environment. According to professor, John Quelch (2012), a success factor during a recession is that the firms should continue spending on marketing and in order to survive a firm should be able to realize how the needs and preferences of customers change in order to adopt their strategies. They should keep 8 factors in mind when making the marketing plans: research the customer, focus on family values, maintain marketing spending, adjust product portfolios, support distributors, adjust pricing tactics, stress market share and emphasize core values.

A research of (Srinivasam, 2009) on six recessions that took place in US, from 1969 to 2007, showed that increases in R&D (research and development) decreases profits for B2B and B2C, while there is no change for service firms. However, more expenditure in advertising increases the profits to B2B and B2C but not for firms that are in service. Also another research agreed that increases in advertising spending increases returns during recession but disagrees that increases on R&D decreases returns (Graham and Frankenberger, 2008).

Another strategy for start ups to follow during recessionary environment is a “Lean start-up” strategy. Many start-ups do not manage to survive because they spend a lot of money and time trying to produce products to customers that they might don’t like and therefore will mathematically drive the company out of business ( Eisenman, 2011). The methodology on start-up businesses is all about avoiding waste in terms of money and time. A good example is through the Toyota Production System (Dennis 2002).

Important factors, for the success of small firms, especially in recessionary environment are the role of education, training and prior knowledge and experience. There are evidences that prove entrepreneurs having previous experience in the industry and knowledge of the market will have positive impact on the firms (Harada, 2002). A research that took place by Simpson, Tuck and Belammy, 2008, shows that only one group out of the four( “the empire builder”, “the happiness seeker”, “the vision developer” and “the challenge achiever”) showed clear evidence that education and training had a positive impact on the success of the business. He found out that motivation and teamwork is a key factor for success. According to Fiol (2001) employees are recognised as one of the most valuable resources to the business in order to achieve their objectives. For some small firms the key point for success is happiness. Entrepreneurs must be happy at work as well the employees and the customers must enjoy the experience at the place of work (Simpson, Tuck and Belammy, 2008).

Analysts have researched on firms choosing to start during recession by following investment strategies. In antithesis with downsizing, firms like to take recessions as opportunities to innovate, expand and invest into new markets in order to extend or expand in a competitive advantage during the recession. Most of today’s household names had successfully launched businesses during recessions in the past. In the oil and steel industries that were emerging during the 1870s recession Rockefeller and Carnegie took advantage of steel production and technologies and of the weakness of various competitors from the same industry (Bryan and Farrell, 2008), and Edison also established General Electric which is until today a big and successful business (Lynn, 2009). Hershey started up their brand and distribution during the 1893-97 depression. Everybody also know until today Kellogg’s which grew out of another period of depression in the 1920s (Rumelt , 2008). The electrical, chemical and motor industries that were very important to post-war British industry expanded during the 1930s. Also two massive companies today, Microsoft and Apple corporations were also both founded in the 1970s, following from the oil-crisis.

A lot of different studies disagree that firms adapt to recession conditions by applying business strategies based on new investment, market diversification and innovation, and a a strategy such as that usually leads to higher levels of business performance. Such examples are :targeting new market niches ,increased marketing spending and new product development (Roberts, 2003; Srinivasan, 2005; Pearce II and Michael, 2006); pricing strategies that centre the value, whereby rich resource firms highlight brand and quality instead of low prices to attract customers, or even, adopting ‘acquisitive pricing’ policies, to control low prices in sensitive markets that are influenced by prices (Chou and Chen, 2004).

On a macro-level, quantitative studies of quantities and asset prices show that quantities differ more than prices do over the business’s cycle, including time between the periods of recession (e.g. Bhaskar, 1993; Geroski and Hall, 1995). From the above it is referred that most firms respond to macroeconomic shocks from a recession by prices maintenance, leading to quantities sold eventually to decrease. For a lot of firms, this is more likely to consequent into lower sales and, to extreme cases, exit. Studies like this show important data on the response of firm under financial crisis conditions but offer a small insight on why firms pick to respond in this way or if the price maintenance is advised by efficient measures.

For the new business, more recent studies claim that a recession is normally an opportunity, not a threat for them, if handled correctly (Rumelt, 2008; Williamson and Zeng, 2009). The recent recession the whole world is facing is characterised by its nature globally and the risk that companies in rising markets take are becoming more active than expected. But research also show businesses not doing very well. Williamson and Zeng (2009) said that a key strategy business might be adopted to avoid this by focusing on developing what rising markets know to do well by offering value for money. They also suggest that companies should invest in research that is aimed at service and product innovation offers similar purposes but at lower expenses and costs.

To sum up, a new business has to have a strategy to begin with. The proof on start up businesses adopting investment strategies to grow through recession is not so clear. Taking on strategies in the beginning and especially in a recession is under risk and most businesses are more likely to be very busy with short-term survival to think correctly about way to innovate and grow. Investments need resources –managerial skills, technical expertise and especially finance –and businesses with no or fewer resources are more likely not to be able to implement them. On the other side, history has proved that companies can adapt competitive advantage though a recession period from innovating into services, business models, products and also by getting into new and growing markets. As seen from previous studies they make very little efforts in explaining the reasons why particular firms do so very well when starting up their business in time of recession. No explanation is clearly given why they take the risk in the first place and avoid the potential risks of attempting such investment. It is consequential from the various researches that when a business adopts investment strategies from the beginning, success without any doubt follows. But the procedures a business has to take to imply these investment strategies and also having profitable outcomes is more likely to be more complicated than just said. However, such suggestions ignore the external issues: if all new firms start up by adopting investment strategies, would all succeed? In such crucial times of a recession, when nearly all customers turn to cheaper products, market conditions may not be able to support a wide range of unique and new innovations or a large number of firms looking for diversity, or new business wanting to grow and succeed. It is known that new business cannot lower their costs as they have more expenses than a mature business.

REFERENCES

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