Small Business Failures: 5 Key Reasons

Small businesses sometimes don’t survive due to a number of factors. There are five key mistakes that small firms should avoid making to stay afloat. Learn about these …

Small businesses sometimes don’t survive due to a number of factors. There are five key mistakes that small firms should avoid making to stay afloat. Learn about these five common errors in this full article from The Street.

There are many reasons why startups never get to reap the riches of a Google (GOOG), Amazon (AMZN), Chipotle (CMG) or Starbucks (SBUX).

An estimated 627,200 companies big enough to hire began operations in 2008, and 595,600 closed the same year, according to data collected by the Small Business Administration. This amounts to an annual turnover of about 10%. Companies without employees have turnover rates three times as high, mostly because they’re easier to start and shut down.

The recession added to the problem, with failures at small companies — according to the Small Business Administration, those with fewer than 500 employees — accounting for roughly 60% of job losses in 2009.

And extreme circumstances such as natural disasters — last month’s earthquake and tsunami in Japan, the devastation in Haiti last year or Hurricane Katrina in 2005 — can take down small businesses as sure as they can wreck the building a business is in.

Lots of articles have been written about why small businesses can’t get off the ground, most pointing to them having either too little capital or no compelling business proposition or product.

But there have been other reasons why many small business were forced to shut their doors, one, two or 20 years after opening.

TheStreet came up with five other key reasons small firms fail:

1. You have become the dreaded micromanager

Business owners want to ensure their company succeeds, but they may not at first hire more-qualified staff to take over functions that require such specialized skills as marketing or business accounting. Whether by choice or because they can’t afford to hire, the owner typically inherits these tasks.

In fact, it is common for business owners to remain in control over all aspects of the business — ensuring the job gets done right. As a company grows, though, this may not be so efficient.

"When a company is in its earliest stages, its success is really driven by the owner’s strengths and willpower. It takes a lot of willpower and skill to get a company off the ground and get it to the point where it’s profitable," says Randy Albert, COO of Phimation Strategy Group in Michigan, a consulting firm that helps small businesses expand. "But once it reaches that point — in order to continue — you need a broader skill set. The owner can no longer be everywhere at once. Nor should they be."

Even if it’s difficult to let go of the reins, owners need to realize they can’t do everything, Albert says. They need to check themselves on control issues and either hire, outsource or allow trusted employees to take responsibility for certain functions.

"Once you get to even eight [employees], the interdependencies are now in the hundreds of thousands of different permutations of how conversations could go," Albert says. "An owner should no longer be in every single one of them. And if they try, they will stifle growth and potentially kill the company."

2. Being unable to re-create initial success

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Once a company sees success with its product or service, the challenge is to find ways to keep the momentum going, experts say.

"When a company is founded they’re usually founded on one thing they do well. Somebody had a technical skill they found a market for or, if it’s a deli, a kind of sandwich that really hit it off with the public," Albert says.

In the early stages, it’s the market — customers — that will drive a company’s growth plans.

"You know immediately that putting that extra cash into an investment is going to serve something that a customer wants," Albert says.

But the more successful a business becomes, the more leeway an owner has to expand on products or services that may or may not be appealing to customers. Owners need to watch overinvesting in a new service until there is a proven market for it.

"All of a sudden you have a pool of resources available that you can spend on pet projects. Those pet projects are no longer being specifically demanded from the market. A lot of times that second one isn’t a good idea," Albert says.

"You really need to make sure you get market feedback on any new investment, new product, innovation or new geography," he says. "The consequences are higher, investments are bigger — you can no longer bootstrap a way into a market. You have to have a much more diligent product with the market."

3. Intermingling personal expenses with business expenses

Paying for personal items, such as cars, second homes or social outings with cash reserved for business expenses is a big no-no, according to James McTevia, turnaround expert and managing member of McTevia & Associates.

"This is a big reason why many business owners often get into trouble," he says.

It’s an easy trap to fall into, especially when the business becomes a person’s life, but it is imperative to keep personal and business expenses separate — for tax and accounting reasons.

Many entrepreneurs start a company because they think it’s going to be a cash cow and use money for personal items — often excusing it with the tough lifestyle required by a business owner, says McTevia, who’s been in the bankruptcy business for more than 50 years.

They may be starting a business for the wrong reasons: "To make a lot of money," McTevia says. To be successful, a business needs that money reinvested.

"Golf club memberships, company cars, the condo in Mexico or cottage in upstate New York, I’ve had to chase it all," he says.

4. Resources spread too thin

Business owners may have some great ideas to increase revenue, but if the ideas stray too far from the business’ original mission or plan or if the staff or funds aren’t available, implementation may be difficult. If a business owner forces the changes or overspends, it is likely to come back to bite them.

Small companies need to focus and prioritize.

For instance, marketing a company can take many different shapes, from aggressive public relations to social media to advertising. "Depending on your size and resources you could only do so many of those well at a given time — unless you’re a huge corporation that could hit all those fronts," Phimation’s Albert says.

"You need to really consistently revisit all the things that are on your plate and make sure they are really linked to your strategy," he says.

Albert used Phimation’s growth strategy as an example. The company is looking to expand into coaching and products that could be sold along with its consulting work.

"It’s easy to get distracted," he says. "We keep aligning our resources with the strategy."

5. Not truly understanding what it takes to own a business

Say goodbye, 9-to-5 job! Say goodbye to four weeks’ vacation, travel reimbursement, free cookies in the lunchroom and other perks. This is the life of the business owner.

A good percentage of people become business owners based on emotions and not practicality, says Thomas Shinick, president and CEO of Corporate Development Partners and a professor of small-business management and entrepreneurship at Adelphi University.

"They like the notoriety. They like the attention of being a business owner [and the potential] to make a lot of money," Shinick says. "The problem is, they don’t have a lot of experience and knowledge."

Whether it’s workers compensation taxes or employees calling in sick, forcing the owner to fill in, "entrepreneurs sacrifice an awful lot," Shinick says. "These are eye-openers."

Shinick says a good example of preparation is McDonald’s (MCD), in which franchisees are required to go through a two-year training program before opening a business.

Unfortunately, many owners don’t do enough homework before opening a business and fail to realize the time and commitment it takes and how it will change their lives, he says.

Lack of industry familiarity is another prime reason for business failure, McTevia says.

"Some people go into a business that they know nothing about and it is a disaster," he says. "It happens all the time. Everybody is in love with restaurants and bars. [But] they didn’t know anything about food costs and liquor costs and problems with employees. They don’t know anything about the competition or how their product performs."

Many owners of failed businesses were also not able to adapt to last-minute changes.

"They can’t recover quickly from distractions," Shinick says. "This is why you have such a high failure rate."

This article was republished with permission from The Street.


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