An economic downturn is, unfortunately, part of the business cycle. Savvy businesses and entrepreneurs understand this inevitable fact, but far too often even they fail to act adequately before or during the downturn.
Since the Great Recession of 2008, this country has been anticipating the next recession for years. Along came COVID-19, aka the Coronavirus, as the catalyst to catapult businesses and industries into a state of flux. While the difficulties that lay ahead are difficult to predict with certainty, we can look back to 2008 for ways to mitigate and protect against catastrophic results.
Initially, it is important to understand the nuances between the economic downturn occurring in 2020 and the Great Recession of 2008. In 2008, the real estate market tanked, which in turn caused securities backed by the real estate market to falter as well. These securities, called mortgage backed securities, were revealed to be even riskier than the bond rating companies had believed. So, when investors sought out safe investments and poured money into a bond that the rating companies had given a AAA rating, it turned out that the investor had actually invested in a bond with a risk rating that was much, much lower.
Lawsuits abound came from this, and the crux of many of these investor lawsuits were whether the statements that the bonds were safe investments were excusable mistakes, or were they more insidiously misrepresentations and fraud. These lawsuits roped in banks, bondholders, other investors, and bond rating companies, causing a massive disruption in the banking world.
Currently, in 2020, the recession so far does not appear to be tied to any systemic issue like the one in 2008. So, large investor lawsuits may not be on the horizon. However, whenever the stock market drops precipitously, as it has done so far, investor lawsuits will follow.
In fact, a couple of investor lawsuits have already been filed against Norwegian Cruise Lines and the biotech company Inovio regarding statements each company made regarding the Coronavirus. These lawsuits, while not necessarily based on misrepresentation and fraud of the status of their company, still stem from whether companies are honest in their disclosures to the public.
As a business, what we can learn from 2008 is to be honest, and upfront in disclosures regarding the business’ financial health and stability, whenever we enter into a contract. Whether the contract is with employees, investors, vendors, or any other third party, every contract in California comes with the implied covenant of good faith and fair dealing. Some contracts even impose a fiduciary duty. What these provisions stand for is that a business must always act honestly. In these troubling times, it may seem easier to cut corners, but the truth of the matter is that this will only cause more problems in the future.
Looking at prior recessions, we can also be proactive for the health of our business. This includes diversifying the products and services offered, renegotiating contracts, maintaining proper corporate documentation, and strategically pursuing litigations where you believe the other party has not been honest.
First, prior to a recession, the business should look at other avenues to offer their products and services. While it is easy to be comfortable staying with the products or services that have been successful in the past, simply diversifying who those products and services are offered to, or repurposing those products and services may be enough to survive through a recession.
Second, to maneuver through an economic downturn, it is necessary to look at all contractual relationships and ensure that they allow for flexibility. Each contract should have adequate terms for allocating risk, explicit terms for termination, and provide for alternate dispute resolution if the Courts are inundated or closed. By keeping an eye on achieving favorable terms, renegotiation is often overlooked but crucial, especially during a recession.
Third, while corporate documentation is not on everyone’s mind, ignoring it may have long term ramifications. Maintaining the separation between the individual and the business entity is especially important during tough economic times in order to keep the benefits of the business entity. Moreover, reviewing and revising the corporate documents will help mitigate any previously unforeseen exposure, and set the business entity up for future success once the economic downturn ends.
Finally, when the economy takes a hit, lawsuits tend to rise as unscrupulous businesses and individuals take advantage of those hit the most. It is important to weigh the cost and benefit of litigation and possibly seek alternative dispute resolutions as they are typically less costly.
The best time to plant a tree was 20 years ago. The second-best time is now. At Shenon Law Group we are dedicated to helping you cultivate and grow your own tree. We can assist in all your transactional and litigation needs to help not only navigate, but thrive during an economic downturn.