Sustainable strategies for a world of economic shocks: we live in a time of sudden and severe economic and geopolitical shocks. Senior finance executives can lead the creation of a business cycle-savvy management structure and culture that ensures rapid response to avert potential risks.

• Author: Navarro, Peter
• Position: Cover story

Recessions and inflation. War, terrorism and nuclear threats. Housing bubbles and oil-price shocks. Ultra "easy money" followed by punishing Federal Reserve rate hikes. Soaring budgets and trade deficits. A falling dollar and stratospheric gold prices. Welcome to the new reality of economic risks and uncertainties. In such an environment, does your organization have full command of the range of strategies, tactics and forecasting tools needed to survive?

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For many companies, the answer is a resounding "no!" That's the conclusion reached following five years of research conducted as part of the "Master Cyclist" project at the University of California-Irvine. This study of more than 300 companies indicates that a surprisingly large number of top management teams are indeed "Reactive Cyclists," meaning they lack even the most basic business cycle and financial market literacy to succeed when times get tough.

In contrast, at least some companies have true "Master Cyclists" at their helms. These executives exhibit a superior command of the set of strategies, tactics and forecasting tools needed to manage the business cycle, the related stock market and interest rate cycles and the pervasive "macroeconomic shocks" of the 21st century business world.

The set of strategies and tactics that have emerged from the Master Cyclist project--and that have proven to be most useful to manage economic turbulence--are those illustrated in The Master Cyclist Management Wheel, in the box below. These "battle-tested" strategies and tactics encompass virtually every major decision-making area of the modern corporation. They cover the key functional areas of marketing and pricing, production and inventory control and human resource management. Additionally, for financial executives, they also target the all-important areas of capital expenditures, risk management tools and the tactical timing of strategic acquisitions and divestitures.

Reactive Approach Sours Cisco's Results

Consider, for example, a brilliant but nonetheless "Reactive Cyclist" CEO like John Chambers of Cisco Systems Inc. He and his executive team failed to read numerous signs that the March 2001 recession was on its way--from a doubling of oil prices and a flattening yield curve in 1999 to a collapsing stock market and dramatically rising interest rates in 2000. Chambers also presided over a company that, by its very organizational design, lacked many macroeconomic variables in its business cycle forecasting models.

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As one of Cisco's top executives put it: "The economy is too complex to get anything meaningful out of such broad numbers as GDP or interest rates." Given that, it's unsurprising that in 2001 Cisco got caught flatfooted and had to write off over $2 billion in excess inventory while laying off more than 8,000 people.

In contrast, consider these words of a "Master Cyclist" CEO like Johnson & Johnson's former CEO Ralph Larsen: "We saw this recession coming three years ago. It was obvious the booming economic cycle couldn't continue. We tightened our belts. We focused on cash flow."

In anticipation of that 2001 recession, J & J, under Larsen's leadership, boldly cut its capital expenditures by over $100 million dollars at the height of the economic boom in 2000--the first decrease in seven years. As J & J significantly built up its cash reserves, the company saw double-digit growth in both revenues and earnings.

These positive indicators, coupled with a "sector rotation" by investors into defensive sectors like health and medical care stocks as the bear market took hold, helped give J & J's stock a double-digit boost in both 2000 and 2001--and allowed Larsen in 2002 to turn over the CEO reins with his head held high.

Lowe's Strategic Behavior: 'Know Thy Sector'

The starkly contrasting strategic behaviors of Lowe's Companies Inc. versus The Home Depot Inc. over the course of events leading into and out of the 2001 recession provides a shining example of how a highly business cycle-literate, "big picture" executive will often trump a consummate but "little picture" supply chain manager in the area of capital expenditures strategy.

Lowe's meteoric rise to power began during the last gasp of the economic expansion of 2000...