Opportunity Cost in a Recession: How Should Your Business Proceed?

When you run a small business during a recession or anytime there’s a looming economic downturn, opportunity costs can become higher-stakes. The age-old question of do I save cash reserves or invest money in growth changes in the context of a recession, as higher yields on savings accounts make a rainy-day fund that much more appealing—and effective. You might be tempted to raise prices during a recession to cover possible losses, but will that decision cost you customers? 

No matter the economic situation, opportunity cost is built into nearly every decision, so it’s important to weigh your options carefully. Don’t consider just the cost of your business opportunity; be sure to consider their potential returns. This is especially important in times of economic downturn, as opportunities in these times may allow you to gain market share or a competitive advantage at a time when your competitors are cutting back—calculated growth, which can yield big rewards.

Every Business Decision Has an Opportunity Cost

Trade-offs are inevitable. While we call them “opportunity costs” in the business world, their meaning is basically interchangeable. An opportunity cost represents what you give up when faced with 2 or more options. They’re the road you take weighed against the one not traveled. 

For my small business, this can mean choosing between client gigs. Do I say yes to a new opportunity, even if it will be more work to onboard a new client, or do I keep working only with my existing clients, and trade theoretical growth for known stability?

For some opportunity-cost situations, even during a recession, the choices are straightforward—even if the decision between them isn’t.

• Saving extra money to take advantage of rising interest rates, which means not having the cash on hand to buy/lease a new car for your delivery business.
• Taking out a loan to expand your business to a brick-and-mortar location as the real estate market dips, which means adding debt to your bottom line.
• Narrowing your marketing campaign to reach higher-value customers and risking overlooking a different target demographic as a result.

In the cases above, you would have to decide what’s more important—and in times of economic uncertainty, this choice can get even more complicated. 

Weighing Your Opportunities

You may find that working out the most favorable decision can be a bit of a challenge due to the desirability of both outcomes, and the economic climate doesn’t change that fact. Here are 2 examples to consider how opportunity cost plays out in real life for many small businesses. 

Case 1: New Business

You’ve been invited to pitch your design services to 2 competing companies. We’ll call them Company A and Company B. You only have the resources, however, to pitch one. 

• The Company A project has a high dollar value, which could grant you increased economic security at a volatile time, but the work isn’t as interesting to you. If you win their business, the project will give you the money to build your team, but it will immediately represent an unhealthy percentage of your business and you may have to scale back on some of your smaller current clients. Because you know someone at Company A, it’s pretty much a guarantee that you’ll win their business.

• The Company B project is half the value of the first, but the work is way more exciting to you and your team. Still, you’ve been told that the client is very demanding. The work, however, would also give you experience and credibility with a whole new industry. One more thing: there’s a lot of competition to win Company B’s contract, so it’s anything but a slam-dunk.

Opportunity cost: If you choose to pitch Company A, the opportunity cost (or trade-off) is creating a name for yourself in the industry, which you would gain if you earned Company B’s contract.

If you choose to pitch Company B, the opportunity cost (or trade-off) is the guaranteed financial freedom that you’ll immediately get with Company A’s contract. Which option would you take?

Case 2: Borrowing Money

Here’s another example. People are clamoring for your custom birdhouses, and the only thing that’s holding you back is a lack of supplies. You’ve found a great source for those supplies and a pretty good price (for now), but you need to buy the supplies ASAP, especially because of increased supply-chain bottlenecks and quickly rising costs. The problem: you don’t have the money on hand.

You have 2 choices: 

• Borrow money to buy the supplies. This will result in you taking on more debt and a loan payment, but that money will allow you to immediately ramp up and sell exponentially more birdhouses while demand is high—and possibly add more people to your team and a few other birdhouse designs, too. Still, it will take a few months before you realize any profit and a year to pay off the financing.

• Stay the course and build your business slowly. You can stay the course, build your business slowly, and avoid taking on debt. It will take you 1 or 2 years to save up enough money to buy that same inventory, although inflation may jack the price of the supplies up further. You run the risk of your customers finding another source for custom birdhouses, too. But all of the money you earn during that time will be yours to keep: straight profit. 

Opportunity cost: The trade-off of taking the loan is immediate profit, which you’d have if you stayed the course. The opportunity cost of staying the course, however, is three-fold: company growth, meeting customer demands, and scoring supplies at a cheaper rate than in the future. Which option would you take?

Moving Forward or Standing Still?

As the above examples show, a recessed economy can make decisions with a price tag a bigger challenge than they already are, as the stakes are higher and resources are tighter. Growth at this point can put you ahead of your competition, but it comes with greater risk of failure.

No matter what your choice would be above, when facing recession-affected opportunity costs for your small business, make sure to consider both short- and long-term costs and gains. It can be tempting to assume an economic downturn will last forever and remain cautious, but historically, that’s not the case—and you might miss out on key growth opportunities. 

Instead, take a bigger-picture view of your finances and, if it benefits your business’s goals, consider accepting some of the risk (that is, short-term risk for a longer-term gain) associated with borrowing money. For those of you eyeing a growth goal, this could be especially vital. There’s unquestionably always risk in borrowing money when you don’t know what’s coming down the economic pike. But options like lines of credit or business credit cards can work especially well in recession-related contexts, as they give you the option to take on only as much debt as your business needs at a given time, on a case-by-case basis.

Two Crucial Points About Opportunity Costs During a Recession

As a business owner, opportunity costs are very real and sometimes very scary—and never more so than during times of economic instability. Still, you can mitigate some of the risk associated with choosing your path by considering the following 2 points:

1. Research your options thoroughly, but don’t take too long—or you may stall your company’s growth while your competitors close the gap.
2. Understand that you can’t change the past. Once you’ve made your choice, don’t look back. Have a plan and keep moving forward—and be willing to modify your path if new opportunities, or concerning economic circumstances, come your way.

By the way, if the opportunity you’re looking at seems impossible because you don’t have the money to make it a reality, consider applying for a loan or other financing through Lendio. With a simple 15-minute, online application, you can be matched with funding from Lendio’s network of more than 75 lenders ready to help small businesses take advantage of the opportunities that come their way.

_{Information provided on this blog is for educational purposes only, and is not intended to be business, legal, tax, or accounting advice. The views and opinions expressed in this blog are those of the authors and do not necessarily reflect the official policy or position of Lendio. While Lendio strivers to keep its content up to-date, it is only accurate as of the date posted. Offers or trends may expire, or may no longer be relevant.}