It's reality time in the New Economy as the shape of the downturn comes into focus. Chances of a quick "V-shaped" business cycle--a quick, sharp downturn followed by a quick, sharp bounceback--are increasingly slender. Cisco Systems' unexpected earnings report, which forecasts declining profits growth for the next two quarters, is a good indication that the slowdown will extend well into the second half of 2001 (pages 32, 85). CEOs who believed that their new information technologies would protect them from surprises in the business cycle are themselves being surprised by the recent turn of events. It is a moment to be humble.
No one, of course, could have predicted the dramatic decline in growth from nearly 5.2% in the first half of 2000 to practically 0% in January. It is a stunning decline, far more than in most recessions. When the downturn began, CEOs were reluctant to accept the possibility of a serious drop. After four years of 4% annual growth, that's understandable.
But many CEOs also contributed to their own downfall by artificially boosting demand for their products through vendor financing. Companies such as Lucent Technologies, Nortel Networks, and Cisco extended credit to small high-tech outfits who then bought their products. These same outfits used these contracts to borrow and leverage even more. Many big high-tech companies also partnered with smaller outfits who parlayed the relationship on Wall Street for financing. Both tactics boosted demand and profits for all on the upswing and are doing the reverse on the downswing.
There will be more shocks in this New Economy downturn and not just to CEOs. Official statistics still show employment to be strong. But Corporate America now employs a contingent labor force, with millions of temporary workers and consultants. Recent productivity numbers hint that companies are shedding labor costs not just by laying off workers but simply by not making the phone call to the self-employed freelancer. Other surprises are sure to follow for both managers and employees.