Top 5 Widespread Reasons Why Small Businesses Fail

Running a business is quite a complicated process as entrepreneurial activity is always associated with different risks. Moreover, it requires effort and considerable time and funds. According to the statistical data, about 45% of small and medium businesses fail in the first 5 years of their existence. Entrepreneurs who want a different outcome should have a look at the most frequent reasons that cause businesses to fail and focus their efforts on the prevention of possible risks.

Business Failures: Definition and Classification

A business failure usually denotes a situation when the company:

• Cannot pay its debts
• Cannot perform the majority of its obligations
• Cannot get sufficient cash flow to cover its expenses
• Is compelled to stop or freeze its operational processes
• Has to close down or declare bankruptcy

Each enterprise is a unique complicated organization that has its characteristics, business processes, and risks. However, if we analyze the errors and problems faced by the small businesses that failed, we will see a number of similarities. Specialists and business analysts usually single out three main categories of reasons that may cause small businesses to fail:

• preventable
• unpredictable
• intellectual (innovative)

Judging by its name, the first category includes the reasons that can be worked upon to prevent and allow the business to develop. These problems are usually connected with failure to comply with the regulated business operations and processes by employees or entrepreneurs. These may also include incorrect actions of employees due to negligence or absence of due knowledge and qualifications. 

Business owners are recommended to do the following to avoid such problems:

• make to-do lists for employees
• take appropriate measures to control the due quality of employees’ work
• provide training to employees
• structure the business processes to make them as transparent as possible and easily control them

You may be interested to find out efficient strategies and tips on how to turn your small business into a thriving company.

Unpredictable failures are also often called inevitable ones. These usually occur due to the external factors that the business or its management cannot influence in any way. They include:

• catastrophes
• economic crises
• pandemics and epidemics
• changes in the laws that regulate the company’s business activity
• competition, etc.

You will hardly find a way to absolutely eliminate the influence of such factors on your business. However, company owners can mitigate their consequences on the condition that the business and its management will be flexible and adaptable enough.

Innovation-related business failure usually occurs when the company is trying to market new products or implement new processes or tactics. For example, businesses invest large amounts in new technologies or the development of a radically new product that differs considerably from the one offered to their customers before. 

The business cannot generate or receive income from such investments at the stage of development, so it often happens that the company expenses considerably exceed the profits over a long period of time. This type of business failure is typical of innovative companies or technological start-ups focused on the developments from the very start of their activity.

Understanding the main categories of problems that can be faced by business helps to form a more comprehensive strategy and minimize the risks of company failure or bankruptcy.

The Most Widespread Reasons of Business Failures

Small businesses are more prone to risks than large corporations. So if you are going to register a company abroad or in your country of residence, take into account the most widespread causes for business failures. 

Insufficient Capital

What is the primary reason that so many new businesses fail? Well, insufficient capital is one of the main weaknesses of small businesses. Large companies usually have more cash flow, customers, as well as funding options. Cash flow is the net balance of funds charged on the company balance and withdrawn from accounts.

Small businesses often have problems with floating capital. They may face difficulties connected with the management of receipts and funds withdrawal. If this situation occurs over a short term, it means that the business is in the risk zone. 

Floating capital is the funds used in the company’s day-to-day activities. The floating capital is insufficient when the current assets do not exceed the current liabilities. One of the main components of the company’s current assets is the accounts receivable (the money that the client has to pay for the work or service). If the outstanding accounts receivable are too large, it may put your business at stake as it will not have enough funds to cover day-to-day expenses.

You can eliminate these problems with the help of the following instruments:

• adequate assessment of the company’s position
• setting the monetary policy
• reduction of items of expenditure
• raising your awareness in the financial sphere

You can also book a session with a specialist to form an overall approach to assets management and funds distribution.

It may be useful for you to find out recommendations for foreigners who wish to start their business in another country.

It should be taken into account that start-up businesses may find it hard to attract capital due to a low level of trust and lack of good reputation. A small business that has recently been launched is often assessed by banks, creditors and investors as a high-risk one, which may result in problems with additional funding and scaling. This issue may be resolved by monetary reserve formation, making up a strategy, and elaboration of a clear business plan which describes the aims of business and methods of achieving them.

Lack of a Business Plan

The second widespread reason for small business failure is the lack of due planning. Many entrepreneurs skip business plan elaboration, which results in company failure. 

According to statistical data, more than 20% of SMEs (small and medium enterprises) fail in the first year of their existence due to lack of a clear, definite, and well thought-out business plan. A business plan is a documented business strategy that describes the company goals, as well as the plans and methods of their achievement. 

A business plan usually contains:

• business goals
• mission of the organization
• description of your products and services
• marketing and sales plan
• plan of entering the market by the company
• different financial forecasts to determine business viability
• market studies
• description of the planned business model
• information about the company’s organizational scheme
• possible risks and measures of preventing them, and so on

If you have no clear plan, it may be hard to make justified decisions and attract financing required for business growth and success. Company owners should make up a business plan to reach at least three goals:

• generalize the organization’s strategy to implement it in the long term
• predict the future needs of their business
• receive funds from investors

In addition to the fact that a business plan is a kind of roadmap for company owners and management, it is also used to attract additional funding. Investors and banking institutions usually study this document to assess the company profitability and prospects. They consider all these factors to make a decision of whether they should invest their assets into the business.

Read our article to discover 5 strategies that can help businesses survive in an economic crisis.

Inefficient Marketing Strategy

Practice shows that a competent marketing strategy is a prerequisite of success in business. The company needs to efficiently promote its goods and services to help as many people as possible to find out about them. Unfortunately, many small business owners fail to put their efforts and invest their funds in marketing, which results in poor brand recognition and limited sales. 

The problem is that the absence of a well thought-out marketing strategy will most likely prevent the potential customers from discovering the brand as the small business will not be able to stand out among a large number of competitors. If small businesses wish to take measures that would prevent this outcome, they will need to develop a marketing strategy that takes into account a number of factors:

• product peculiarities
• market conditions
• competitive offers
• needs of the target audience
• amount of funds that can be used for marketing purposes

You should organize advertising campaigns in such a way as to focus them on your end users and inform them about the unique value attached to your business offer. 

In addition to traditional advertising campaigns, present-day conditions require small businesses to take care of their digital presence. This is an important part of marketing strategies which is hard to overestimate. Digital presence means that your small business is active on the Internet. 

Many authoritative editions confirm that COVID-19 pandemic has almost doubled the number of people who mainly make their purchases over the Internet. It should also be taken into account that the majority of people check your digital presence before they decide whether they want to buy your products. About 85% of people study the brand and the feedback people leave about it before they make a purchase. 

So if you want your marketing strategy to be more efficient, promotion on the Internet should play an important part. This may include:

• creation of a website and brand profiles in the most popular social media
• ensuring interaction with permanent and potential customers
• investments in advertising and public relations on different platforms

Poor Adaptation to Market Changes

Despite the fact that small businesses are characterized by more flexibility than large companies, it often happens that even small companies cannot timely respond to external changes. It results in stagnation and considerably reduced sales and cash flow. All of that taken together may cause a small business to fail. 

The present-day quickly changing environment requires businesses and their owners to be adaptive and quickly respond to changes. Here are some important tips that will help you avoid business failures:

• track the situation on global and industrial markets
• evaluate your competitors
• take into account the customers’ feedback
• use the advantages of innovations and technologies

You should also be prepared to change your business strategy considering the data received to increase efficiency and gain success in business. 

Inefficient Business Management

Poor management is one more widespread reason why small businesses fail. Many entrepreneurs lack the necessary skills and experience to efficiently manage all the aspects of their business, from finances and production operations to human resources and customer service.

Poor management may have an impact on the employees and the company’s general activity. The signs of inefficient management include:

• high turnover of staff
• low performance of employees
• non-motivated personnel
• unhealthy atmosphere in the team
• deterioration of the company’s reputation
• decreasing profits

In time, the results of poor management may do damage to the whole company and even result in business failure. The expenses on recruitment and training of the new staff may exhaust the company’s monetary resources. And if this process entails lower or zero profits, the small business will probably have to declare bankruptcy and close down. 

Want to avoid this problem? Make sure to hire a professional manager and create a strong management team or engage HR consultants for help. The small business owner and managers should regularly undergo training and improve the management efficiency.

How to Prevent Small Business Failure

The good news is that not all small businesses fail: some of them prosper! Here are the ways that will help you prevent business failure or minimize its probability.

Make a SWOT Analysis

SWOT analysis is a method that will help you determine and classify the internal and external factors that influence your small business.

As a result, the SWOT analysis will make it possible for you:

• to use the strengths of your small business (S)
• to minimize or work on your weaknesses (W)
• to take opportunities (О)
• to prevent threats (T)

This is a useful instrument to analyze the overall business efficiency and discover the problems and spheres that need improvement. The most important category is “weaknesses” as it will show you the main risks and reasons for possible failures that will result in business failure. The main aim of the SWOT analysis is to help the small businesses see and take into account all the factors that influence making business decisions. 

Actively Promote Your Small Business on the Internet

The technologies are now rapidly developing, and they encompass all spheres of human life. Your potential customers actively use the Internet on a daily basis, so your small business should be there. Small enterprise owners should focus on the promotion of their business on the Internet as it gives a possibility to use cheap (or even free) methods to advertise their products for a wide audience. 

Creation of a website, registration of brand pages on the platforms of the most popular social media (for example, Twitter, Facebook, Pinterest and Instagram) are easy and efficient methods of lead generation, marketing plans realization, and improvement of small business recognition in the digital space. Specialists note that digital marketing is considered the norm for the present-day business person and can be classified as a tactic method of overcoming business failures.

Focus on Customers

Today’s environment is highly competitive, which means that small businesses should pay special attention to the focus on customers. It actually means that the business puts the needs of its customers first. 

Customer-oriented companies should take measures to form a corporate culture that will raise target audience satisfaction and build a strong relationship with it. Small businesses that provide high-quality products and services have an opportunity to take advantage of customer loyalty. 

The customer focus means not only the skills of communication with customers or service quality but also more fundamental business aspects. These may include: 

• quality of products and services
• honesty of the enterprise’s marketing campaigns
• transparent pricing
• adaptive sale cycles
• collection and analysis of customer feedback, etc.

If you know more about your target audience, you will be able to correct your actions more efficiently and elaborate the strategy that works for your small business. The focus on the customer is an important instrument that will support your business. It will help your company acquire a good reputation and ensure stable growing sales and cash flow. These factors taken together will help you prevent business failures even in times of difficult economic crises. 

Conclusion

Each company is unique, so there are a lot of reasons that may cause your business to fail. However, studying them and eliminating weaknesses will help you minimize the risks of business failure.

It is important to understand that only a company owner can ensure the success of any business. If you lack knowledge in any sphere (accounting, team building, software, legal issues), you can undergo training or engage qualified specialists to form your team of professionals. It will help you keep your finger on the pulse, build up a competent business strategy, and achieve success.

Legal issues may become a serious problem for small businesses – especially if the entrepreneur is going to register a company abroad. Many entrepreneurs are unaware of the legal requirements and rules connected with business, which results in heavy fines and court disputes. 

If you are considering an option of establishing your company in Europe, USA, or Asia, send your request to info@offshore-pro.info. The seasoned experts of International Wealth will give you advice and provide the required legal services you need to set up your small business, open a corporate account abroad, obtain licenses, and so on.