Friday, November 28, 2008

Separating the Chaff

I find a recurring theme in the news these days both disturbing and encouraging.

It seems that business after business is failing due to lack of cheap credit. Small business owners claiming they can't continue without cheap money to borrow. Large businesses (thing automakers and natural gas producers) desperately seeking money from the government or stock or debt issues.

Let them fail.

ANY business that RELIES on loaned money to survive is a horribly run business.

A startup often needs loans, venture capital, or investors to get going. In the past, this meant these businesses were seriously vetted and examined for commercial viability and investment potential. But with low rates, some of the dumbest ideas could get loans. It's very reminiscent of the dot-com days, where moronic plans like "a site where you can manage your little league roster" would get millions in financing without actually having any sort of real business plan.

These loans are supposed to pay for things like real estate, product development, marketing, and other high-cost expenses that are necessary for growth. The idea being that once those were taken care of, the business would make a profit and the loans would be paid off, allowing the business to sustain itself and grow organically until the next big expansion was necessary.

But over the last few years, companies of all sizes stopped using credit to expand, but to run day-to-day operations. You should never be paying your staff with borrowed money. Rent should be coming out of revenue, not loans. At the end of the day, you should be able to say "if this loan dries up tomorrow, I can survive by making cuts to expansion plans."

So when a company like GM, or Chesapeake Energy (largest Nat Gas producer in the US) suddenly finds itself broke because credit has dried up, I feel no pity for them.

The root problem lies with the constant drums of growth and expansion being beat. Contraction is a bad word apparently. Keeping steady profits is as bad as losing money it seems. Because of this, companies lose sight of what it is they're supposed to be doing.

So it's disturbing that so many businesses exist only because they could borrow money to stay afloat, but encouraging that they'll either have to become more efficient or go away.

Unless the government bails them out of course... then nothing gets fixed.

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