The traveller knows to check the weather before setting out because it can have an impact on the length and success of his journey. Likewise, business cycles can have an impact on the success of your business ventures. As an entrepreneur or small business owner, it’s critical that you understand cycles both inside and outside of your business so that you can make the decisions that result in growth and expansion.
What Is a Business Cycle?
“The business cycle” generally refers to fluctuations in the economy during a specified period. Over any period of time, the economy is either expanding or contracting.
When it expands, you find increases in such indicators as employment, income, production, and others.
When it contracts (often referred to as a recession or depression), those same indicators can be seen to decrease: less employment (higher unemployment), lower wages, less production.
This coordinated movement of economic indicators—unemployment, production of goods and services, new construction, retail sales, and others—was first noted and described in the 1946 book Measuring Business Cycles, authors Arthur Burns and Wesley Mitchell.
For many, the term “business cycle” is confusing, as the word “cycle” gives the idea that there is regular, recurring pattern, such as with a credit card billing cycle. This is not the case.
The beginning and end of a business cycle are somewhat arbitrary and the lengths of such cycles may vary greatly.
A new cycle begins when economic indicators begin to change direction—upwards from a fall or downward from a rise. A business cycle has both a “peak” (highest point) and a “trough” (lowest point). A recession is measured from peak to trough and expansion is measured from trough to peak.
In the U.S., a business cycle span is determined and dated by the non-profit National Bureau of Economic Research (NBER).
What Causes It?
It’s based primarily on production.
In a perfect world, there is an ideal level of economic activity in which all aspects of production are fully engaged at an optimum level.
To get a mental grip on what this means, think of it like this: producers of raw materials are producing at capacity. Businesses that use those raw materials are also producing at capacity. Businesses that buy those products to use in making their own products are producing at capacity. Everyone who can work is working—producing. Workers are being paid sufficiently. They can comfortably afford to buy things they need that the world is producing.
This theoretical condition is known as “full employment” and, theoretically, it could continue without interruption. As a population grows and new technologies are developed, it brings about more resources and opportunities. Thus production can remain steady.
Business cycles occur when production moves above or below full employment. For example, it’s not unusual for a story in the news to cause a general feeling of fear or loss of confidence. Consumers hold on to their money. Production slows in reaction to a decrease in spending. Employees get laid off.
It creates a downturn.
It can work the other way around as well, such as from the general optimism that may come in response to a new president or an announcement that a recession has ended.
This is a simplified explanation. There are other theories and possible factors that can be the cause of a new business cycle.
Business Cycles and Your Decisions
Being aware of the business cycle tells you not only what’s currently happening in the business environment but by noting the trend, you can get a clue as to what will happen.
For instance, your “gut” may say “invest.” The investment may seem obvious—no apparent risk. A “no-brainer.” This is particularly true during expansions. But it may actually not be a good time to invest.
Here’s why: Have you studied the stock market much? If you look at a stock’s historical chart on Yahoo! Finance, you can see how the stock did for the day, week, month, year, and even many years.
A stock’s value may fluctuate a lot on a given day, week, or month but those fluctuations may not mean very much. What matters is the overall trend—the direct things have been moving in over longer periods of time.
The business cycle isn’t a daily, weekly, or monthly concern either. A look at historical business cycles shows the shortest to have lasted six months and the longest to have gone on for two years.
So you always want to look at the overall trend, rather than the indicators for a day, week, or month.
With an awareness of the business cycle, you know when the recessions and booms are likely to occur. It gives you an advantage and greater certainty in your decisions.
Your Personal Business Cycle
There is the external business cycle, as we’ve just discussed. Though it’s a bit arbitrary, it’s nonetheless valuable to understand and consider in your decision-making.
There is also the cycle of your own business.
Knowledge of your own business’ cycles might be even more important to you than the NBER-declared business cycle.
There are several distinct stages that a business may go through during its life cycle. (I say “may” because not all businesses will go through all stages.)
One way to identify each stage is by the role you most often play in your business:
Anyone who starts a business is in fact all of these things but will be found to wear the employee “hat” far more often than the rest.
As your business grows, you should be handing off the earlier hats to other people. Ultimately, you should wear only the owner hat, unless you sell your business, in which case you are then handing off that hat as well.
Is that a bit confusing? Let’s take a closer look.
Employee: In the startup phase—whether it’s a lemonade stand or a cutting edge tech venture—you (or you and your partner/s) have to do all of the actual physical work.
This is the hustle phase—the 10, 12, and 16 hour days phase—and there’s never enough time to get it all done: product/service creation, marketing, promotion, lead generation, sales, fulfillment, customer service, bookkeeping, admin—whatever, you perform all of these tasks.
Some businesses never move out of this phase and it’s usually because the owner can’t delegate. Such a person’s mantra is, “If you want something done right, you’ve got to do it yourself.”
However, if you don’t delegate—outsource certain tasks or hire an assistant or other employees—you end up working for that business for as long as you have it. You become a terminal employee and, like an employee, your “business” becomes more like a job. You’ve got to work if you want to get paid.
When you do delegate, it should usually be to hand off tasks that don’t directly contribute to bringing in revenue (such as bookkeeping, webmaster, and customer service) so that you can focus more of your time on tasks that do directly contribute to revenue, such as marketing and sales.
Manager: It’s at this phase that you will experience your company’s first wave of growth. This is because you will have delegated non-income-generating tasks (to a freelancer or other new employee) and thus will have been able to devote more time to income-generating activities.
You’re now managing the production and results of the people you’ve delegated work to. Managing takes a lot less time than doing the work yourself.
However, you may still be in Employee mode to a certain degree, as you’ve still got to do some of the work.
One of the smartest things you can do while still in Employee mode is to document how you do the tasks that you will eventually delegate to others. If you get it all down in writing, it will save you time on training new hires. And if a new hire quits or proves to not be able to do the job, you have your document, which you can provide to the next hire.
In Manager mode, delegation becomes not only a matter of letting go of non-income-producing activities but also of letting go of lower-income-producing activities.
For instance, you might find yourself handling all sales cycles—the front-end and the back. At some point, you will have to see that your time is best spent only on selling your main (higher-priced) offers to existing customers and finding someone else to handle the front-end sales.
Builder: It is at the Builder stage that you begin to focus less on tasks and more on the survival of the company itself.
A Builder’s interest is less on the “right now” of doing work and more on the future of the business.
Part of this will concern the integrity of the business itself: developing and solidifying the company’s vision, philosophy, and culture, and also ensuring that everyone in the company knows and is operating according to these things.
The other part concerns the environment and how it may affect the business. A Builder is watching out for trends in their industry (and other industries, if it could affect theirs), and the overall business climate. This is the stage at which you are forming the overall strategy for the business. This is when you might begin to take a genuine interest in things like NBER-declared business cycles.
As a Builder, you take responsibility for the overall performance of your business. If done correctly and completely, it is at this stage that your company will experience its most rapid growth.
Owner: Though you are the owner of your own business, you may eventually reach the point where you’ve amassed enough knowledge and experience to begin investing in other businesses.
So, you go into those businesses more as an Owner or investor. You may function as an Employee, Manager, or Builder but it’s to a far less degree than you would if you were establishing the business yourself.
As an owner, you’re concerned with a business as an asset—its value to you as an income source or its potential value to a future buyer.
A prime example of an Owner is Warren Buffett. His company, Berkshire Hathaway, owns a multitude of businesses across numerous industries, including GEICO, Fruit of the Loom, Ben Bridge Jeweler, Helzberg Diamonds, Dairy Queen, and Duracell. Buffett does not work in any of these businesses. He simply owns and profits from them.
In order to figure out where you want to go, you’ve got to know with certainty where you are right now. By understanding the various stages of your own businesses development you can better know what comes next or you can diagnose where you might have gone wrong and go back and correct it. And by understanding the external business cycle (as declared by the NBER), you can bring greater certainty to your decision-making at any stage in your business.
Joseph is a senior advisor at the Senate of Canada. Joseph enjoys writing, blogging and teaching. You can follow Joseph via Twitter @josephsoares.