- Recession fears are back, but there are steps small business owners can take to prepare.
- Experts recommend businesses get paperwork in order in case they need a quick loan or merger.
- They also recommend checking contracts with landlords, contractors, and employees.
Markets are flashing warning signs of a possible recession. It’s a good time to batten down the hatches.
For business owners, there’s no “magic bullet that would completely protect you or make you recession-proof,” said Noel Roycroft, the deputy director of the Harvard Law School Transactional Law Clinics, which advises entrepreneurs and small businesses.
But there are steps in the legal realm that businesses can take to prepare.
Business Insider spoke with lawyers who advise small businesses and startups about what advice they’d give to prepare for an economic recession.
Here’s what they said.
1. Get your paperwork in order
In the event of an economic downturn, business owners might want to consider getting a loan to help them through choppy waters, merging with another company, or selling their business to a larger one.
In any of those circumstances, small businesses want to have all their ducks in a row for the due diligence process, said Roycroft, a former attorney at Ropes & Gray.
Have you paid all your taxes yet? Are your filings up-to-date with all the relevant state and federal agencies? Do you have all your corporate records organized? Do you have copies of the executed versions of all your contracts? Have you read your company’s bylaws recently, and are you actually following them?
Roycroft said it’s better to prepare before the storm starts rather than wait until something goes wrong before realizing the business is in bad shape from a legal perspective.
“You’re playing cleanup at that point, and that’s no fun for anybody,” Roycroft said. “So the more you can kind of pay attention to those things now, the better.”
Some states — like Massachusetts — automatically dissolve corporate entities if their paperwork isn’t up-to-date.
“If you haven’t done that for three years, you might be administratively dissolved and they don’t even realize that’s happened,” she said. “And then they go to enter into a contract with somebody and there’s no actual legal entity in place anymore.”
2. Put up the firewall between you and your business
Proper corporate hygiene isn’t just important for loans and mergers — it’s also important for liability.
For small businesses, a hazy line between corporate and the owner’s personal finances could cause trouble. Without a firewall, owners could become liable for debts in potential litigation or bankruptcy.
“If people are worried about litigation risks from creditors or counterparties, making sure that you’re following these sorts of maintenance obligations shows that the business is separate from the owners and can help maintain that liability shield,” Roycroft said.
3. Get your personal finances in order
If a small business needs a loan and has few assets, the owner will often be asked for a personal guarantee, Roycroft said.
For that reason, they should have their own financial life organized for lenders to analyze, she said.
Roycroft warned that such an arrangement could be risky, especially during an economic downturn, because the owner could be required to pay back the loan.
“If you were a corporation or an LLC and you enter into one of these loans, they can now seek to be paid back against your personal assets and not just the businesses,” she said.
4. Consider trading debt for equity
Aside from loans, small business owners could consider lightening their debt load by giving up equity to existing lenders.
That arrangement could give the lender “skin in the game” and invigorate the business, said Jonathan Askin, a professor at Brooklyn Law School who oversees the Center for Urban Business Entrepreneurship.
“You don’t have debts coming due, but you’ve got potential equity partners who want to see you succeed as much as possible,” Askin said of the arrangement.
Some lenders — or even contractors who are owed money — might also accept deferred compensation during a recession, Askin said.
“If we see light at the end of the recession tunnel, then anything you need to get over that hump through renegotiating and getting people to see your long-term vision, I think is helpful,” Askin said.
5. Make sure you own your own intellectual property
Small businesses often overlook the fine print of their agreements with independent contractors, Roycroft said.
One common issue, she said, is that independent contractors or employees don’t transfer over the IP rights for whatever they created for the business.
That could be a headache if the business is looking to merge with another. The contractor might have leverage of their own because they still have ownership of important IP for the business, Roycroft said.
6. Check your lease
For companies with brick-and-mortar businesses, rent is often the biggest expense.
Roycroft suggested checking that small business owners check their lease agreement and make sure they understand their obligations and rights.
“Making sure that you understand, ‘If I miss one rent payment, what can happen and what are the notice requirements in it? How do I notice the landlord? How does the landlord send notice to me?'” she said.
There may be opportunities to renegotiate. While big corporate landlords tend to have more power than small businesses, no one wants to see a vacant storefront, she said.
Askin also suggested negotiating rules about sub-tenants, which can ease rent liabilities.
Landlords might also consider lowering rent for some equity, Askin said.
“There may be landlords who see the long-term future of your venture and might want to have skin in the game, too,” Askin said. “Maybe they’d be interested in giving you a reduced rate for a piece of the business.”
7. Use legal advisors who will save you money by using AI
The age of artificial intelligence has introduced enormous efficiencies in the legal industry. Askin recommended using AI-driven tools and law firms that pass some of those decreased costs along to their clients.
“As a business person, I would take advantage of as many free or pro-bono legal resources as possible,” Askin said. “I don’t think it’s safe to abandon human legal counsel, but there are ways to automate legal processes so you could use more efficient legal support services.”
He also recommended business owners take a look at their processes and see if AI tools could automate certain functions.
“If you’re not digging deep into AI, you’re behind the eight ball already,” Askin said.
8. Understand your obligations to employees
Recessions usually mean that businesses need to tighten their belts. Roycroft recommended brushing up on state and federal laws that govern how employees are treated. Are they at-will employees? Do they have a union contract? Do they require a certain amount of severance or notice for a layoff? Are furloughs an option?
“God forbid you have to start letting people go, but that can happen in a recession,” Roycroft said.
