Why Small Businesses Fail

From 1980 onward, business plans have become a staple in lending and investing. They provide, or so their supporters will argue, a standardized way to look at a business. Business plans require entrepreneurs to actually “plan” and they are the road map an entrepreneur uses from start-up through to a full-scale operation.

So why is it then that businesses with business plans still fail?

There are several reasons. Oftentimes, the challenge is not in the business plan itself but in the strategy of the entrepreneur and in the broader business model.

The first main reason that businesses fail, is that they are just generally bad business ideas. One of my favorite shows is the Canadian version of Dragon’s Den. Just watch one episode (they are available at www.cbc.ca) and see the sheer number of bad business ideas that exist. Bad ideas are bad for several reasons. The market for the product may be small or ill defined, the marketing or distribution strategy may be abysmal or non-existent, and the entrepreneur themselves may be the biggest obstacle the business has.

The second reason that businesses fail, is cash flow. Entrepreneurs are great at predicting prospective revenue, but poor at understanding cash flow. They are so eager to get orders that they will take any payment terms from their customers, even if it is at their own expense. I have seen entrepreneurs come to me and they offer 90 day payment terms for their customers, but have all payments due in 30 days or less from their suppliers. It does not take a rocket scientist to figure out that there is going to be a cash flow problem here. Unless the entrepreneur has a good line of credit, or a large degree of personal savings, this issue can mean the death of the business.

There are many other reasons. Poor management, inexperience, lack of contacts in the industry–take your pick. My favorite reason cited for the death of a business is poor planning. Planning in itself is not the answer. What these critics mean, but rarely get around to saying, is that the need to implement good risk mitigation strategies is key. Identifying what the risks are to a business and confronting ways to mitigate those risks is really where the crux of all business success starts.