PART 3 – Top Reasons why New Businesses Fail – [PART 1 Here] and [PART 2 Here]
It’s often said that more than half of new businesses fail during the first year. According to the Small Business Association (SBA), this isn’t necessarily true. The SBA states that only 30% of new businesses fail during the first two years of being open, 50% during the first five years and 66% during the first 10. The SBA goes on to state that only 25% make it to 15 years or more. Though the odds are better than the commonly held belief, there are still many businesses that are closing down every year. (To learn more, see Keeping A Small Business Afloat.)
However, some businesses need not fail. With the right planning, funding and flexibility, businesses have a better chance of succeeding. We’ll go through some of the biggest mistakes that start-ups can make and figure out how to improve your chances of success.
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Not Investigating the Market: So you’ve always wanted to open a real estate agency, and you finally have the means to do so, but your desire to open the agency blinds you that the area where you want to work is already saturated with agencies, making it very difficult to break in. This is a mistake that will cause you to fail from the beginning. You have to find or create an opening or unmet need within a market and then fill it rather than try and force your product or service. However it’s a lot easier to satisfy a need rather than create one and convince people that they want to spend money on it.
Business Plan Problems: A solid and realistic business plan (BP) is the basis of a successful startup. In the plan, you will outline realistic goals for your business, how your business can meet those goals and possible problems and solutions. The plan will figure out if there’s a need for the business through research and surveys; it will figure out the costs and inputs needed for the business; and it will outline strategies and time lines that should be implemented and met. Professional help at this stage can be rewarding. I have used my own business modelling software for decades. No need to reinvent the wheel.
Once you have a credible plan, you must follow it. If you increase spending or change your strategies you are asking for failure. Unless you have found that your BP is overwhelmingly inaccurate, stick with it. If it is inaccurate, it’s best to find out what’s wrong with it, fix it and follow a new plan rather than change how you do business based on quick observations. The more mistakes you make, the more expensive it will become and the greater the chance of failure.
Too Little Financing: If you have started a company and things aren’t working out, you’ve got little capital and a struggling business; you’re really not in a good position to ask for another loan. Be realistic at the beginning, and start with enough money that will last you to the point where your business is up and running, and cash is actually flowing in. Trying to stretch your finances at the beginning may mean that your business never gets off the ground, and you’ll still have a lot of cash to repay.
Bad Location, Internet Presence and Marketing: A poor location is self-explanatory if your business relies on location for foot traffic. Just as dangerous, however, is internet presence. These days, your location on the internet and your social media presence can be just as important as your company’s physical presence in a shopping district. Online presence will let people know that they can give you their business, so if the need is already there, the availability and visibility of your business is the next important step.
This is similar to marketing. Not only must you make sure that marketing reaches people, it must reach the right people. So make sure the type of marketing lines up with the audience you want to reach. Big billboards may not be the way to go for an internet company, just as online ads may not be the way to go for a heavy-construction business. If the need is already established, make sure you’re reaching the audience who needs your product or service. Eight Ways To Survive A Market Downturn
Rigidity: Having done the planning, established your business and gained a customer base, don’t get complacent. The need that you’re fulfilling may not always be there, monitor the market and know when you may need to alter your business plan. Being on top of key trends will allow you lots of time to adjust your strategy so that you can remain successful. One must only look at the music industry or Blockbuster video to know that successful industries can undergo huge changes.
Expanding Too Fast: Now that your business is established and successful, it’s time to expand, but you must treat the expansion like you’re starting all over again. If you’re expanding the reach of your business, make sure that you understand the areas and markets into which you’ll now be reaching. If you’re expanding the scope and focus of your business, make sure you understand your new products, service and intended consumer as much as you do with your current successful business. When a business expands too fast and doesn’t take the same care with research, strategy and planning; the financial drain of the new approach can sink the whole enterprise.
The Bottom Line: Though the rate of business failure is high, it doesn’t mean that you have to fail. Through careful planning and flexibility you can avoid many of the pitfalls of a new business and be a part of the 25% that make it to 15 years. (For more tips, see Starting A Small Business In Tough Economic Times.)
Nice articles, keep up the good work.
Always found running break-even amounts off and on as fixed cost changes helpful.
Would enjoy hearing your take on that as you are better versed in such matters.
Yes Ginger, a major monitor is that of fixed costs and semi-variable costs. I haven’t mention cost accounting that much but it is indeed a crucial element in financial controls. I always monitor B/Es in my business modelling on a monthly basis because, as you say, B/E changes all the time. It’s crucial to set the actuals against budget each month and update the model regularly together with price/volume ratios.
The key takeaway is that actuals are historical and only useful as a gauge for future cashflow projections based on the model. This is how they work together to pin down all the financial variables.
Thanks AP,
This was a solid article. No gripes. You might consider writing another from your accountant background, touching on fixed and variable costs (like the commenter above suggested), cash flow, keeping a balance sheet in good shape, keeping records and gov’t compliance, etc.
A business plan is indispensable, Fail to plan, plan to fail.
Good finances are also very important. If you don’t have the money, that is a red flag. If you can’t get the money, maybe the money guys are telling you your idea is not much good.
Location is HUGE for local businesses. (even web-based ones) If you are starting out, you should take into account that you might (probably) have to move some time in the future. So naming your company “Main St. Hardware” and then moving to Broadway is not a good idea. Same with any location names.
Also, research past businesses at your proposed location. Did they make it? Why is the location available now? Etc. I have seen quite a few restaurant locations that seem cursed. New restaurants open, close, open, close, etc. Could be a sign of bad traffic, too high of a lease, infrastructure problems (poor plumbing, odd smells, old electrical, etc.) You don’t want to open up to problems, you’ll have enough of those already.
Keep an eye on the future. You’ll probably start out leasing, but if you do it in a strip mall or shopping center, you will always lease, along with yearly lease increases. Also, be aware of triple-net leases. You will pay not only rent, but a pro-rated (sometimes unfairly so) portion of taxes, insurance, and maintenance / improvements on behalf of the owner. Get some help negotiating the lease.
Remember, if you can buy the location, your “lease” can never go up, and this will help long-term profitability.
A word about franchises: You are taking on a partner for your business that will never go away, will run your advertising, and will be your main supplier. So be careful. You will never escape their “skim,” and it may not be worth it. There are advantages in having a known name, and participating in a national brand. They will also already have a business plan, systems, and will mostly have done the work to know if the location will work. But unless they are extremely well-known and solid, you will probably do better going it on your own with good planning.
Finally, not all businesses that “fail” fail. Failing right out of the gate often shows poor planning or lack of money. But often the entrepreneur voluntarily closes his doors. Running a business is difficult and takes a huge amount of your personal time. It is very difficult to take time off, vacations, and you are the only one to pick up the slack when employees drop the ball. There is no health insurance, retirement, sick leave, or any other safety net. And, right around the 5-year mark, you start to come to the attention of regulatory agencies, such as the IRS, Sales Tax enforcers, and other entities that won’t really look at you until you are established. If you don’t have your ducks in a row, these guys can end up shutting you down, too.
But having your own business is probably the only way to establish true independence, a good income, and ultimately have a version of freedom that most wage earners will never see.
Now, maybe we can entice Stucky into sharing another of his favorites from his zoophilia files.
A wonderful supplement to my articles Bug, thank you, and all you say is solid advice. I am sure that I can teach you little. You will see that I reference ‘Investopedia’ often and I do find this site a valuable source of guidance and learning.
There is so much to running a business; you have to know so much about lots of things and I never cease learning new things all the time. Every consultancy job I have completed was a wonderful experience and I learned new things every time – different markets, business models etc. I found that in every case there was a unique approach by the business which gave them the edge.
Xerox taught me the imperative of ‘ongoing revenue stream’ (ORS). There are so many examples of this from the supply of printers at below cost to enable to ongoing supply of printer inks. When Xerox invented the plain paper copier which was inordinately expensive, the competitor was liquid based at 10p per copy in the day.
So Xerox rented it’s printers and charged 1p per copy (they call it ‘clicks’ and toner cost little). Of course it took off in the 1960s and the growth of copy volume was a bonus because of the convenience of copying. This is a very good example of ORS. Like ‘Hoover’, Xerox became a generic for copying – great for marketing and promotions – they became the darling of the stock market in those days.
Yes, I think there is a lot to say about ongoing revenue streams. If you have contracts, it makes bank loans a slam dunk for expansion. They can already see where their money will come from.
Often, the benefit for the customer is that they no longer need to worry about some form of business headache, and it turns a variable, and often significant, cost into a stable and planned, low-key, expense.
A good example is a multi-family laundry room in a complex. The companies used to try to lock them in, and share coins, and so on. Now, they just lease the machines for a specific amount per month (it is still locked in) and they do all the repairs, maintenance, and replacement. The owner gets all the coins, and has to deal with everything else.
Very similar to auto lease agreements.
On the other hand, you can see the complete greed, and I dare say, evil, of companies that won’t sell you software (for example), but will only lease it. You create your content, but have to always pay them in order to access it. It is, in essence, a way to hold the utility of your own creations hostage for the benefit of their ORS.
That is quite a bit different from copiers or washers. You can use those, or replace them as needed. The other model is like leasing the plumbing in your house. You miss a payment and they cut off your water or plug/back up your toilet. There is a real and actual punitive aspect to not feeding their ORS.
Anyway, there are a lot of ways to make a good living giving real service to your customers. I expect everything outside of that will cause a lot of troubles in the near future…or in the eternal one.
Thanks AP. Keep producing, and I’ll try to mellow out a bit.
Thanks bug for those wonderful examples – all so true. And now the Great Reset will see us ‘owning nothing and being happy’! Looks like the Globalists have a good grasp of ORS.