Is diversification the key to recession survival?

News by Adfero for Simply Business

An important result of the recession has been the sucking of profit from otherwise lucrative, or at least sustainable, niches. Specialised businesses which were successful during the good times are now finding themselves squeezed, plugging away at a revenue stream that no longer exists.

The Confederation of British Industry (CBI) has long been warning that over-specialisation meant small businesses could suffer in a recession.

The business organisation claimed that an inability to diversify meant SMEs would be affected by a downturn to a greater degree than larger organisations, which are more likely to be spread across a number of sectors.

Reiterating the CBI’s message, Chris Simpson, account manager for government business support service Business Link said that “looking at diversification” could help a business through tough economic times.

Of course, diversification can be a boon for businesses in any economic climate. By extending the range of services on offer, a company can often increase its revenue from existing customers or expand into new markets.

In addition, by building on an existing brand name and bank of contacts, new ventures already have a head-start.

New offerings

Diversification can focus on related products - for example easyJet’s line of budget hotels to complement their budget airline business. Or it can test a brand's strength in new areas, as Virgin did when it added its media outlet to its well-established airline brand.

Stephen Bentley, chief executive of Granby Marketing, faced this dilemma when he launched the company’s new Granby Talk outsourced call centre service.

The service was offered as part of the company’s marketing product suite, but was given its own identity to boost sales.

Talking to Growing Business, Mr Bentley said diversification did not have to mean “brand new”, arguing that “if you have got something strong, build upon that”.

Highlighting the benefits of diversification, he added: “You’ve already got your accounts, human resources and other departments in place to cope with the new business. You don’t need to put in all the administration like you do when you’re getting a new business up and running.”

Diversification risks

Expansion is not without its associated risks, however. Diversifying during tough times - for example when demand is low or finances are tight - can act as a distraction from ensuring that the core business is stable and profitable.

That said, it is important to be sensitive to movements in your sector. You must be able to promptly identify when the market for your existing products or services is set to decline, or if it is already saturated. In these cases, diversification can be a useful means for business survival.

Thorough market research is also a vital component in any business diversification strategy. Without understanding a new market, gaining expertise in that area and knowing the competition, a new venture is unlikely to take off.

Adrian Mole of accountancy and business adviser Mazars claims a lack of research is one of the most common reasons for the failure of a diversification strategy. He told Growing Business: “Mostly this happens at a commercial level when the entrepreneur hasn’t fully understood the business that they are going into.

“The classic one is haulage. People think that because they have a fleet they can become a haulage company without realising the issues involved and that many hauliers are working on wafer thin margins."

For these reasons, Business Link advises that expansion into related markets with a familiar customer base is less risky than entry into completely new markets.

The organisation also recommends that a clear development strategy is put in place, with new products and services tested for a trial period before a permanent roll-out.

Staff

For small businesses in particular, staffing considerations can be key. It is vital that the staff and suppliers are in place to offer a new product, and that sales and marketing teams are able to promote it.

This is one area in which Greg Harris, development officer for Mitchell Charlesworth accountants, believes his company could have done better when they launched their small business development service.

He told Business Link: “We should have included internal training as part of the diversification process from day one. The business development service took off so quickly that we needed more trained staff to help us cope at a very early stage.

“If we’d developed the skills of existing employees sooner, we wouldn’t have had to recruit from outside the company. It was more expensive in the long run.”

Some final key areas that are often overlooked by diversifying businesses are tax and insurance. It is useful to inform the Inland Revenue of any changes to a business model. If diversification leads to a new business setup this may result in a change to a company’s tax status.

Diversifying businesses also need to ensure that they have the correct insurance in place to cover the activities of new ventures, and should not assume that existing policies will cover this.

So while diversification can be a welcome boost to a business in the tough economic climate, well-planned diversification has a far greater chance of long-term success.