In the real business world, it is not smooth sailing, which is why many businesses fail. There is the risk that a business, especially a new business, will fail which will make the entrepreneur suffer the loss of the capital invested in the business. It is therefore very important for the business owner to be familiar with the factors that could trigger off business failure and to do everything possible to avoid them. Some of the factors are external to the business and therefore uncontrollable by the business owner. These are business cycles – season of low business or boom, inflation or loss in value of money, interest rate charged by lending institutions, access to capital, and government policies or regulations.
The entrepreneur should be more concerned with factors internal to the business which he/she can control. In most small businesses, managerial inexperience or poor decision making ability is the major cause of business failure. In this connection, the following factors must be avoided by the business owner:
- Managerial incompetence: A study of business failure by experts revealed that about 50% of business failures are attributed to the incompetence of the owner-manager. Incompetence occurs if the owner manager lacks the leadership ability and knowledge necessary to make the business work. Many managers do not know what it takes to run a small enterprise. They require knowledge of financial statements, accounting systems, marketing plans, personnel recruitment and training among other requirements peculiar to the business.
- Lack of experience: Small business managers need to have experience in the field they want to operate. For instance, if a person wants to open a retail supermarket, he/she should first take up employment in an operating retail supermarket. If the person wants to be an importer or exporter, he/she should first work in an import/export company. Working in these environments will help him/her to learn the intricacies, the mode of operation and the nature of the business generally. This type of overall experience will make the difference between success and failure when the business owner launches out.
- Lack of adequate capital: Capital adequacy is key to a successful business. The business entity must be adequately funded to match its level of operations. It is prudent to start small and then grow from there. Unfortunately, most entrepreneurs tend to be too optimistic of success. Consequently, they misjudge the size of capital required to start the business . As the business grows, the business owner must put in additional capital to match the level of operations.
- Poor financial control: This is a strategic cause of business failure. Three key factors that affect the health of small businesses are: undercapitalisation, poor customer credit policies (giving debtors more time to pay than you get from creditors) and over-investing or tying down cash in stock and fixed assets.
- Embarking on reckless credit sales to boost sales volume and reduce stock of goods in store. This practice can cause business to fail due to lack of cash. In fact liquidity or cash is the life-blood of business. Whatever the case, the small business owner must put a limit to credit sales. Failure to do so will adversely affect the financial strength of the business. A business fails when it lacks cash to pay current expenses like staff salaries to staff or creditors as and when due. Cash with order should be the best credit policy for a small business.
- Failure to plan. This is the greatest undoing of the small business owner. It is often said that he/she who fails to plan, plans to fail. The failure to plan that weakens a small business manifests itself in two ways, mainly, lack of strategic planning and unplanned expansion. A strategic plan identifies methods for maximizing the strengths and overcoming of the weaknesses of the small business. The strategic plan addresses the following questions:
- What business are we in?
- What are our strengths and weaknesses?
- Who are our customers?
- What are they buying and how can we meet their demand?
- Who are our competitors?
- What are their strengths and weaknesses?
Answers to these questions are key to the survival of any small business.
- Unplanned expansion with borrowed funds. This can lead to sudden failure of a small business. Ideally, expansion should be financed from capital contribution by the owner or from the profit earned or savings/retained earnings. However, most businesses prefer to borrow and this creates problems when repayment cannot be made as and when due. In most cases creditors file lawsuits in court seeking to wind up the business due to its inability to pay its debts. This situation must be avoided if the business must survive.