Public Policy, Economics and Entrepreneurship: August 2008 Archives

My column in today's Tennessean examines risk in these difficult economic times:

Risk. It seems to be at the heart of entrepreneurship. Whenever I ask a group to describe entrepreneurship, the word risk is always one of the first things people mention.

Most often people associate risk with failure. This is commonly called "sinking-the-boat risk." It is the risk of putting your money, your time and your reputation into a new business only to have it fail.

The news yesterday was that inflation is heating up faster than expected.  What adds even more concern is that inflation is now getting much broader than just energy and food.

I know many of you who are a bit younger believe that inflation is manageable -- I get your e-mails and comments that wonder why I am so worried about it.  I just raise my prices to reflect my higher costs and everything will be OK.  Right?

The problem is that smaller businesses are less able to adjust to inflationary pressures.  It is not a smooth and orderly increase in prices for every business in the economy. 

If you have big suppliers or customers they can tie your hands.  Your costs go up, but you are unable to pass along these costs with higher prices.

An additional worry this time around is that we have a weak economy with inflation -- this is called stagflation.  In this scenario, customers begin to sit on their hands.  When you raise prices they either buy less from you or even decide not to buy at all.  We go out to eat less often and when we do we buy less expensive meals.  We travel less and choose cheaper options.  We postpone buying new goods.  But, we also postpone taking care of old things.

As I have been saying for many months, it is time for entrepreneurs to hunker down.  Build up cash, cut overhead, and reduce debt (interest rates will soon spike).  Position your business to meet the new economic reality.  Focus on value to your customers.  While doing all of this, you still need to treat your customers well and keep communicating with them through marketing.  Bootstrap your marketing efforts, but stay in front of your customers.

The National Federation of Independent Business Index of Small Business Optimism fell again in July, establishing one of the longest strings of recession-level readings in the history of the survey.  Half of the decline was due to weaker capital spending plans--the lowest reading since 1975.  Lower earnings, fewer job openings and lower inventory satisfaction also posted substantial declines.

On the upside the survey found gains in expected real sales, business conditions, and the percent of owners saying this is a good time to expand.

The gap between the US state with the top state and local taxes and the bottom is 5% of income according to a new report from the Tax Foundation.  For an entrepreneur, such a gap can mean the difference between success and failure. 

A start-up is a race between cash burn and breakeven.  Higher tax rates mean a longer run to breakeven.  A longer run to breakeven means more cash needed to launch the venture.   Higher tax rates also means the entrepreneur earns lower returns on both cash investment in the deal and on sweat equity required to get to breakeven.

The Tax Foundation report finds that the nation as a whole paid 9.7% of its income in state-local taxes in 2008. New Jersey residents paid 11.8%, topping the charts. New Yorkers were close behind, paying 11.7%, and Connecticut was third at 11.1%. The top ten were rounded out by Maryland (10.8%), Hawaii (10.6%), California (10.5%), Ohio (10.4%), Vermont (10.3%), Wisconsin (10.2%) and Rhode Island (10.2%). Alaskans pay the least, 6.4 percent in 2008, but Nevada is close at 6.6 percent. In four states the residents pay between 7 and 8 percent of their income in state-local taxes: Wyoming (7.0%), Florida (7.4%), New Hampshire (7.6%) and South Dakota (7.9%). Four other states round out the bottom ten: Tennessee (8.3%), Texas (8.4%), Louisiana (8.4%) and Arizona (8.5%).

States should pay attention to tax rates right now.  Entrepreneurship is tough enough without the state adding to the entrepreneur's costs by taking away a precious percentage points off of profit margins through higher taxes. Five percent extra costs in the heavily taxes states can be the difference between surviving to breakeven or not; to making the decision to pull the trigger and launch a new business or to sit on the sidelines.