10 Common Reasons Why Small Businesses Fail
When you start a small business, you set out with high hopes and lots of enthusiasm. The reality of running a business, though, can be a lot tougher than many people think. The myth that 50% of all businesses fail in the first year is not true. Even so, half of all new businesses don’t survive beyond the first five years. If you know why other businesses have failed, you can avoid falling into the same traps. Here are ten of the most common reasons that small businesses fail.
1. Lack of Market Research
One of the most basic reasons that businesses fail is the law of supply and demand. Are people going to buy your product or service at the price that you want to charge? To answer that question, you must look at your competition. Understanding your market is an essential part of business planning.
Market research means you have to go out into the field and speak with real potential customers. Your mom is not your target customer, she will always think you’re the best ;)
When you’re developing a product try to make it as tangible as possible to your audience. It will give you the best chance to get valuable feedback and put you on the track to success. For end-users, it’s not always easy to understand what you’re planning to build if you just explain it to them. It doesn’t necessarily mean you have to invest a lot of time and money to build advanced prototypes. There’s also the concept of ‘pretotyping’.
A ‘pretotype’ is like an early stage prototype used to bounce off the first idea. It allows you to gain insights right from the start. A great example of a pretotype is Elmo’s Monster Maker iPhone App:
2. Insufficient Initial Investment
It is possible to start some types of business on a very limited budget. Sustaining a business without adequate capital, though, is very difficult. Businesses will sometimes experience periods of lower than expected sales. Most businesses will also have some customers who pay late, or who never pay at all. If there is no cash reserve, a business may not be able to survive these temporary shortfalls in cash flow. A lack of capital may also be a barrier to future expansion.
3. Poor Financial Control
Having a great idea for a business is not enough. You also need to be able to manage the finances. You don’t need to be an accountant to run your own business, but you do need to keep a tight rein on the money. You will need to know what your profit margins are. You will also need to make sure that those margins are high enough to cover your overheads. You will need to manage your cash and stay on top of your debtors. On a very basic level, you must raise invoices in a timely fashion. The basic accounting tasks might be boring, but they are an essential part of running a business.
If you’re not a finance person you can consider to outsource your bookkeeping. There are several service providers that offer managed accounting as a service. Accounting as a service is often cheaper than hiring an in house accountant while you do get expert skills and a dedicated person that knows your business.
4. Inadequate Sales and Marketing Skills
A lot of small business owners start by selling their own expertise. They might be web developers, car mechanics, or house builders, for example. It doesn’t matter how good you are in your own profession. If you fail to market and sell your product, your business will fail. You must market your business to reach your target audience. You must then be able to convert prospective buyers into customers. Then, you will need to build customer loyalty so that one-off customers become repeat customers. Sales won’t come to you; you will need to go out there and get them.
5. Inability to Differentiate the Business Offering
Small businesses will often be entering an already crowded market. Small businesses need to be able to differentiate their offering from the competition. They need a unique selling proposition (USP). A USP can be a unique product feature. It could also be something less tangible, such as personal service. There must be something, though, that makes the business different from all the rest.
6. Unwillingness to Delegate
Some small businesses fail because the owner is unwilling to delegate. Business owners sometimes believe that they can’t trust anyone else to do a job for them. As a small business grows, a business owner must be willing to delegate tasks to other people. They will need to make the transition from a one-man-band to a business manager. Delegation may involve giving employees more responsibility. It may be using external resources. Either way, at some point, a small business owner must be able to delegate. If they don’t delegate, they will not have enough time available to manage the business.
It’s not always easy to give away control over parts of your business. But as your organization grows you won’t have the capacity to personally oversee everything. It’s also not motivational for your employees if all their work is constantly checked and criticized. Allow your team members to have control over their work. They’ll feel more proud of their achievements and be extra motivated.
When delegating work it’s important that your company has a clear vision and values and that you communicated them to the team so everybody is moving in the same direction.
7. Lack of Planning
Lack of planning is another common reason why so many small businesses fail. This applies to both the initial planning and ongoing planning. All good businesses start with an initial business plan. That plan will include market research, financial budgets, and sales and marketing strategies. The planning process doesn’t end when a business opens its doors, though. Existing plans will need adapting to meet new challenges. New plans will be needed for the future. Plans, budgets, and forecasts are what gives a business direction.
8. Overtrading
Overtrading is the term used to describe a business that has expanded too fast. It can cause a business to fail, even if the business is profitable. If a business expands too fast, it may not have the capacity to meet the increased demand. It may not have the cash to buy the inventory that it needs or to pay for new machinery and equipment. The best way to grow a small business is slow and steady. That will make it possible to finance growth out of the working capital of the business.
It sounds contradictive that a business goes bust because it’s too successful. But let’s make a concrete example. Let’s say you’re a furniture manufacturing business. The time between a customer’s order and the moment of delivery is one month. Within that one month, you need to pre-finance all the raw materials and labor. It might not seem like much if you need to pre-finance a single order. But what if tomorrow you have ten, a hundred or a thousand orders? You need to have the financial means to overcome the period between your cash-out and cash-in.
Yes, businesses go bust because they are too successful. Cashflow is key for your business survival.
There are various tactics to mitigate this risk. The most important measure to take is to have a clear view of your cash flow. Make sure to use proper accounting software and keep your books up to date. Keep an eye on the bills you need to pay and the invoices owed to you. remind your customers timely if you notice invoices that go overdue.
If you want to read more on how to maintain a positive cash flow you can do so here
9. Poor Leadership
To make a business a success, you need strong leadership. Employees will need managing, motivating, and, in some cases, firing. Leading a team can be tough for some people. If you are too disciplinarian in your approach, you will demotivate employees. That can lead to high staff turnover, which can be expensive. But if you are too hands-off, employees may take advantage of you. It’s a tricky balance to get right.
“To lead others you have a clear vision of a world that does not yet exist. And by articulating that vision it inspires people to believe what you believe.”
— Simon Sinek
10. Complacency
One of the reasons that small businesses fail is that the owners become complacent. They take their eye off the ball. If you do that in business, you will soon find that your competition has gained a lead on you. Or, you may find out too late that your finances are not as sound as you thought. The thought of sitting back and watching the money roll in is a nice one. The truth is, though, small businesses need constant management.
Conclusion
The fact that 50% of all small businesses fail within five years might be discouraging. It doesn’t mean, though, that your business idea won’t work. With proper planning and management, a good idea can become a thriving business. Understanding why some businesses fail will help you make your business a success.
