What Happens When the Business Owners Start to Check Out?

Aggravating Economic Trends

That we're headed for a recession seems consensus.

We've been through recessions before; they're unpleasant, and firms that were on the bubble may fail as demand is crushed. The healthy process of wringing inefficiency from the economy generally allows a reallocation of resources and demand to firms better positioned to deliver.

But what happens when a recession is overlayed atop generational and global instability, food shortages, an energy crisis, and an unprecedented capitulation of business owners?

You've read ad nauseaum about food and energy, and you've sensed the unrest. (Check out Neil Howe's 4th Turning for more context.) But have you considered what happens when business owners just mail in the keys?

That was the rubicon that, once crossed in Atlas Shrugged, significantly accelerated economic and social decline. As business owners drew inspiration from seeing others check out, more did so themselves. While mentioning Atlas Shrugged generally evokes very strong sympathetic or antagonistic reactions from folks, it's valuable at least as a thought experiment.

SMB Reality - Return on Equity

Every business owner has a choice to make every day. Is the return in income, satisfactokn, family opportunity, and social impact that they derive from operating their business greater than the return they could generate by putting their equity to work elsewhere (normally in more financially productive but less labor and economically productive activities)?

When the answer is "no"; when the hassles and costs rise as margins and opportunities decline, they start to look at alternatives including selling or liquidating.

Many businesses run on small margins compared to SaaS, private equity, and investment banking. A typical industrial business may return 5% net before taxes. A business, for instance, like the one a friend of mine has owned and actively operated for many years.

His middle-market CPG company has been located for many years in a major metropolitan area. It employs a couple hundred people and occupies three different, large industrial spaces for manufacturing, warehousing, and fulfillment. Its business is built on slim margin, high volume sales to large chain retailers, and consumes significant quantities of commodity products including paper and paperboard.

For more than two decades this company has emphasized "reshoring," and advocated for and achieved success with American manufacturing of products which now commonly come from overseas. It's succeeded because of creative and shrewd management, careful financial controls, and consistent delivery and fulfillment.

It's never been an easy business and has become increasingly stressful over the last decade. Retailers publically profess commitments to buying American, but privately squeeze suppliers relentlessly, knowing full well that contrary to public ESG "greenwashing" they'd either compel importing, or displace long-standing vendors with ones seduced by volume and naive about true costs, who would be destroyed in the process.

Yet my friend kept the business viable - gobbling TUMS and frantically juggling priorities.

And then things changed. COVID, social expectations and attitudes, and increasingly antagonistic government regulation and governance.

• Five years ago staff would jostle for overtime opportunities and the company would gladly pay it to help meet ship date commitments. For the last two years, people have summarily and unapologetically refused to work overtime.
• Property taxes are roughly 3X what they were five years ago for facilities in close proximity to unrest and disruption, and state & municipal COVID requirements created massive production barriers.
• Suppliers of many years have declared Force Majeure several times leaving the company short of critical raw material and forcing them to commit more working capital and expensive real estate to building buffers to satisfy uncommitted future orders.
• And their customers, the chain retailers, have steadfastly refused to collaborate at all to maintain decades-long, flawless relationships.

And so my friend finally decided to exit. He explored some transactional options which were initially attractive to suitors because of brand strength, existing customers, and large existing orders. But the factors that brought him to the point of surrender also dissuaded potential acquirers.

And so the business is closing.

With it go:

• the urban jobs
• the related service revenue like cleaning, the snack truck route, payroll service, commercial banking credit lines, freight expenses, travel costs, nearby daycare, and more
• extensive manufacturing equipment goes on the market at liquidation rates, and supercedes new machine orders
• long-standing brands and a rare company/management/business model that could provide domestically manufactured commoditized CPG at viable prices
• municipal, state and federal income tax revenue
• future hiring and capital investment
• a feeling of activity and vibrancy in the community

This wasn't a business that collapsed in a recession because it was over-leveraged or poorly managed. It wasn't a business that became obsolete. Rather, it's run successfully for decades while others in its industry outsourced millions of dollars of product manufacturing to China. This is a business that was rendered nonviable by social change (work ethic) and government regulation.

You may debate whether the owner was selfish in shutting down instead of enduring for 3%, then 2%, then 1% margins. But I know of his long days and weekends, and brutal stress. I also know the work he personally undertook to help each employee find new work.

When an Isolated Case Becomes a Trend

Here's the problem. He's not alone. Others have done the same, and more who feel the walls closing in each day will follow suit when they realize they're not alone. A couple of anecdotal examples will become a trend. The effects will snowball. And Ayn Rand tells us the regulatory intransigence will snowball in response. A horrifying cycle will unfold.

It's likely that the impending recession will hasten the trend, and the product of the superposition of business owners' capitulation and a recession will amplify the combined cyclical impact significantly.

There are many who work for businesses like my friend's that might not appreciate how tenuous the system is, focused instead with envy on the owner's fancy car in a spot out front. And there are many who work for and run businesses with very different models built on high margins, laptop facing distributed workforces, and ample monopoly money from investors, who believe they have business savvy but are ignorant of the manufacturing economy.

Selfish Decisions Can Collectively Spare or Doom Us

I urge you to keep this in mind as you consider, discuss, and vote on local, state and national initiatives which promise relief in the form of collectivist solutions enacted by government officials who are often credentialed academics without a single concrete business achievement.

When the head-down, hardworking, risk-taking business owners start to shut it down and checkout, we're collectively in a world of hurt.

P.S. - and if you haven't read Atlas Shrugged, do so ASAP!