(FORTUNE Small Business) – Poor Hutch Johnson. A few years back his company, Cadet Manufacturing Co., was forced to recall 190,000 in-wall heaters that had allegedly caused dozens of fires, resulting in two deaths. Faulty temperature-control switches were to blame.

Then, if you can believe it, things got even messier. The defect, as it turned out, was just one of several that affected ten times as many units--1.9 million Cadet heaters in all--as the Vancouver, Wash., company's officials had originally thought. The Consumer Product Safety Commission (CPSC), one of the federal agencies charged with recalling hazardous products, demanded the company expand the recall. And when Cadet said it couldn't afford to, in January 1999, the agency sued the company. The projected cost of the second recall: $75 million--a staggering sum considering that Cadet's annual revenues were under $25 million. Add to that the mounting pile of legal bills from a class-action and four other product-liability suits, and it's no surprise what came next. Cadet, a company with a strong brand name and a 40-year record of profitability, filed for Chapter 11 bankruptcy protection the same month. "[We] had all the ingredients of a good company," laments Johnson, the company's president. "The recall was just a bump in the road, but it was such a big bump that it derailed the company."

Now, we admit, Cadet's fate was extreme. And you're not likely ever to get caught up in an event like the recent Ford-Bridgestone/Firestone ruckus over allegedly defective auto tires. But ignore Cadet's story at your peril. The fact is, the CPSC recalls as many as 300 products a year. For companies that don't have huge cash reserves, even a limited recall can spell big-time financial stress. (If you're wondering, there is recall insurance. It's becoming more widespread but still may be too expensive for most small businesses.) If there's any good news about all this, it's that a recall is actually survivable for small companies.

The first and most fundamental rule: Cooperate with the CPSC. Staffers at the Bethesda, Md., agency have handled recalls of hundreds of types of products, and they can supply guidance on everything from diagnosing a defect to getting a problem product out of the public's hands--in short, all the steps that will get you through the ordeal. "We're not in the business of putting anyone out of business," insists CPSC spokeswoman Jane Francis.

Of course, federal law doesn't give small companies (or big companies, for that matter) much choice. According to Section 15(b) of the Consumer Product Safety Act, companies must immediately alert the CPSC about product defects under any of the following circumstances: if the product fails to meet a consumer product safety standard; if the defect could create a "substantial hazard"; if it creates an "unreasonable risk of serious injury or death"; or if it fails to comply with voluntary standards, as in the case of things like chain saws and unvented gas space heaters.

Companies that put off reporting problems do so at their own risk. The CPSC, which can mete out civil penalties of up to $1.6 million, fined seven delinquent companies in 1999.

This year, Baby's Dream Furniture, a $30 million Buena Vista, Ga., company, was fined $200,000 for failing to promptly report a defective hinge on its Generation oak crib's drop gate. According to the CPSC, in 1997 the company had received nine complaints that babies' fingers had been crushed and in some instances cut off altogether after getting caught in the hinge. Still, Baby's Dream didn't notify the commission until the end of the year. The company recalled the cribs in 1998, but last January it had to pay anyway. (Baby's Dream didn't return numerous calls seeking comment.)

The foot-dragging isn't hard to understand. No company wants to lose money and get bad press. But any delay in dealing with the CPSC can result in the same fine that hit Baby's Dream and also provide unfriendly fodder if your company is faced with product-liability suits. Keep in mind that reporting the problem doesn't necessarily lead to a recall--about 60% of the time the CPSC takes no action whatsoever.

How do you know you have a problem worth reporting? Let's begin with Peter Jenkins of Boston Warehouse Trading Corp. Last December he got a report that a customer had strained a muscle when one of the company's folding chairs collapsed. Jenkins, president of the Norwood, Mass., company, didn't know if it was a flaw or just a freak accident. He didn't immediately know what to do. "It's very stressful," he says, "because you have to work out, is it a real problem or a pretend problem?"

But a quick round of tests at the company's warehouse convinced him the chairs were not sufficiently sturdy. (A screw that was too small was the culprit.) In January he called the CPSC. Says Jenkins, who wound up recalling 1,800 chairs: "I wouldn't want my mother sitting on [one]."

Scoping out the problem isn't always that simple. In some cases it requires hiring an outside company to conduct independent testing, or further investigation by the CPSC. (The agency has in-house engineers--electrical, mechanical, and metallurgical, take your pick--who conduct safety tests.)

Still, as Harvey Grossblatt, president of Universal Security Instruments in Owings Mills, Md., discovered, even the experts can be baffled. Last year he went to an independent lab to check out complaints that his company's smoke alarms were failing. The lab wasn't able to duplicate the problem. Neither could the CPSC. "Basically we said, 'All right, let's have an abundance of caution, and let's deal with it,'" says Grossblatt, whose company recalled 34,000 smoke alarms in May. He estimates the recall could cost up to $150,000, though he says the company didn't have much choice. "Look at all the aggravation that Firestone is getting--they could've [recalled the tires] six months ago," Grossblatt says.

Acting quickly, in fact, can be a big money saver over the long haul. Three years ago the CPSC launched a fast-track recall system under which companies that agree to begin a recall within 20 days of reporting a problem can bypass the commission's standard product review process. The upside: Companies don't have to supply the usual mountain of documentation required in a typical product investigation; plus, the CPSC issues no formal written finding against the company's product, which can head off a lot of legal headaches. "That's a huge incentive,'" says Mary Martha McNamara, a lawyer and former CPSC special assistant who now represents companies facing product-liability claims. "Once you've had a [CPSC determination of defect], you may as well get out your checkbook and just start writing for the litigation."

The recall itself is arguably the most difficult part for small businesses. Roger Malinowski of BOB Trailers remembers bracing for his company's recall of 3,700 jogging strollers last spring. "It's kind of like if your house burns down," says Malinowski, president of the San Luis Obispo, Calif., company. "You don't have a single thought. You just go, Oh, wow, this is gonna be big."

The basic steps the CPSC requires in a recall--putting out notices to the public, establishing a repair plan, retrieving defective items, and tracking repairs--can be a massive logistical mess. Malinowski, for instance, spent two weeks trying to come up with workable systems for reimbursing BOB Trailer dealers and for tracking strollers that came in for repairs. Moreover, in order to correct the defect (wheel connectors that cracked), he had to have replacement parts custom made.

Baby Trend, an Ontario, Calif., company that also had to recall jogging strollers this year, had a simpler problem to fix: The removable seats on some of its strollers weren't snapped onto the frame. But the company still had to move fast to check 2,250 strollers at about 120 Babies "R" Us stores to make sure the snaps were fastened, as well as to retrieve those strollers that had already been sold.

When announcing a recall, the CPSC issues what appears to be a carefully worded press release designed to keep panic levels to a minimum. Even so, companies need to prepare for a flood of calls from skittish customers.

Scott Boyer of Answer Products in Valencia, Calif., says the company fielded several hundred calls a day after the company recalled 17,500 faulty bicycle forks last spring. Many of the callers had been badly misinformed about which bikes the recall actually affected. Says Boyer, vice president of products at Answer: "We even had people calling us for other companies' recalled products."

His advice? Assemble a team to help out with damage control and to deal with impatient customers. "When you recall something, everybody...on the food chain--distributors, dealers, consumers--is going to want a solution today," says Boyer. "Nobody's going to want to hear, 'Don't use something for two months.'"

The good news, if there is any, is that businesses--even those in seemingly fatal circumstances--do bounce back. Cadet, for instance, pulled out of Chapter 11 in February, and Hutch Johnson says the company has redesigned its heaters and is fully back on track. "We have the safest product out there now," he boasts. His advice to other companies facing a recall: Hang tough. "What I learned is to stick to your core business," says Johnson. "Don't let the recall detour you."