Why do Small Businesses Fail?
It’s a well-known fact that most small businesses will fail within the first five years. Recent studies conducted by the US Bank aim to shed light on the main factors behind such failures. Listed below are the top reasons why small businesses struggle to succeed:
- 82% of the small businesses fail due to poor understanding of cash flow or cash flow management
- 79% of the businesses fail as they start out with very little money
- 78% of the businesses fail due to absence of an initial effective business plan and research
- 77% of the businesses lack effective pricing measures
- 73% of the businesses fail due to being over-optimistic about sales targets, monetary and various other requirements that need to be fulfilled in order to succeed
- 70% of the businesses fail because they ignore signs of failure and are not forthcoming about seeking help
How to Recognize a Cash Flow Problem?
Depending on your business life-cycle and industry, there might be several contributing factors for your cash flow challenges. However, if your expenses exceed cash, you have a cash flow problem, regardless of the size or industry of your small business enterprise.
It is common for small businesses to have expenses greater than their revenues in the initial phase of business growth. Various expenses such as R&D costs, contractor expenses, sales and marketing, administrative costs etc. will need to be incurred. However, though these initial expenses are necessary, your business can only succeed if eventually your revenues are greater than your expenses.
The most important thing to remember is that no matter what your industry, size, growth plan or lifecycle stage of your business, your expenses should never be greater than the current cash available.
Can a Cash Flow Problem be Resolved by Increasing Sales?
While battling cash flow issues, it is common for people to question if they need to focus more on selling. Although it may seem like the right solution, it isn’t. When a business decides to increase sales, it puts greater pressure on working capital demands. At the same time, inventory starts to pile up. The biggest drawback is the lag in time between manufacturing goods and realizing money from the sale of such goods, which can sometimes be several months. Therefore, financing needs and cash inflows should always be factored in when formulating growth plans.
How can Small Businesses Reverse a Cash Flow Problem?
- Categorize Expenses
Your number one step should be to classify your expenses and figure out where are they originating from. You will need to divide your expenses into different categories such as R&D, G&A, Operation, COGS, Sales and Marketing etc. Observe closely if any expense stands out.
- Quantify Expenses
Your second step should be to quantify the expenses of each category as a percentage of total expenses. At this stage, you will need to assess whether the cash distribution done by you makes sense.
- Set Meaningful Benchmarks
Thirdly, you need to analyze how much other businesses are spending and set meaningful benchmarks for your business as well. During this analysis, it is important to consider businesses in the similar lifecycle stage as your company as well as other businesses within your industry. No matter what the benchmark, you do not want to spend more cash than you have. Therefore, these benchmarks will need to be adjusted according to the cash available for your business.
- Micromanage Your Expenses
Lastly, you need to understand that all expenses are not alike and that micromanagement of money is essential during the first few months of your business. Every single expense reduces your profit margin. Therefore, a cost-benefit analysis of each expense is crucial. It is common for most entrepreneurs to grossly overspend during the first few months of business, leading to business failures and losses.
Importance of Forecasting for Small Businesses
It is important to remember that forecasting is essential while managing cash flows. Small businesses aim to achieve fast-paced growth and a detailed forecasting exercise helps to achieve this growth in an effective and sustainable manner. We have discussed the importance of benchmarking earlier and the next step is to plan strategically.
While managing cash, you will need to carefully assess how to address your financing needs – do you plan to raise cash through debt or equity financing? By forecasting effectively, you essentially eliminate any guesswork and lead your business to the path of success strategically.
Professional Expertise is Helpful in Addressing Cash Flow Issues
If you are unsure about a cash flow problem or you wish to discuss strategies to achieve more sustainable growth for your business, contact Jay Dwivedi, VP of Corporate Finance at BGD. With thorough knowledge in the area, Jay has assisted numerous clients in discovering successful financial solutions for their business challenges. Jay has extensive experience in various industries including transportation and logistics, professional services, restaurants, retail and consumer and construction.
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