According to the US Bureau of Labor Statistics approximately 20% of small businesses cease by the end of their first year, at the end of 5 years only 50% remain (2016-2021) and at the end of 10 years only 35% remain (2011-2021). Source
There is a multitude of reasons why businesses cease operations. Below are the general areas of focus to ensure a small business doesn’t fail due to unprofitability.
Bringing in Revenue (Positive Cashflow)
Revenue generation is absolutely number one in terms of relative importance. A business without sufficient inward cashflows is almost certainly eventually going to fail. Lack of revenue can be counterbalanced with injections of owners / investor capital, but that is always provided where there is a belief that there is a path to eventually profitability. Investing good money after bad, is not a viable investment strategy.
Revenue must also be profitable, as it’s the residual profits which will provide the capital to drive growth in the business, justifying additional investment, whether by the owners / investors or by way of external lending.
Another important factor is to not just simplistically think “I’ll just uncut the competition and win business through lower prices”.
Here is an example of that approach, consider the following at an individual product level:
Sales price $100
Cost of sales $70
Profit before tax $10
So, if you cut your sales price by $10 (10%) to $90 to win business, how much profit are you now making?... Nothing. There are cases where this can be a good strategy (more below), but this example is to consider that simply selling on price may invalidate the whole basis to be in business, namely to make a worthwhile profit. Furthermore, price in isolation is not the absolute consideration for most buyers.
Gaining Sales & Finding Customers
Small businesses are diverse and any approach will vary accordingly. But as a general overview, the following should normally apply:
The target customer needs to be clearly identified. The whole business strategy needs to be tailored to that target customer. How do you service/solve their issues on an optimal cost/benefit basis relative to competitors? I.e., The goods or services intended to, or being supplied, are already being supplied and serviced by competitors. Hence, by analyzing competitors, it should provide the basis upon which you will compete to gain some/all of their custom. The product/service offering needs to be better in some respect (or in aggregate) in order for customers / sales to be directed at the business and not competitors.
Strategize the approach of the offering and where you are going to be better than your competitors. Consider the 4 Ps of Marketing. Product, Price, Place and Promotion. The business does not need to be better than the competition in every aspect, but as a Marketing Mix overall it should be able to identify in which area(s) it is ideally better than the competition. Often the acronym cited is ‘USP’ which is the Unique Selling Proposition I.e., what makes your businesses product or service uniquely better than the competition?
Product / Service – Features, Quality, Branding, Design, Packaging, Guarantees. Effectively in which ways will your product/service be better? E.g., Good Branding can often result in customers less focused on price.
Price – List price, Discounts, Payment terms, Credit terms. How does the price in the customers mind equate to everything being offered?, and in comparison to competitors’ offerings? Can the Product, Place, Promotion, justify a higher price and therefore better profit margin?
Place – Channels, Market coverage, Location, Transport/Distribution. Where are your customers, where is the most cost effective / beneficial way to service them? Channels refer to sales distribution method such as whether you will be selling to the ‘Trade’ I.e., Business to Business, or Business to Customers?, will you be selling via the Internet, a physical location?
Promotion – Advertising, Publicity, Sales promotion channels, Direct Marketing, Word of mouth. Effectively how is the business going to communicate with end buyers to make them aware of the offerings. How do you identify customers? Will your business directly interact with them or will it be done through an intermediary? If your potential customers are unaware of your product/service they won’t buy it irrespective of how great it may be!
Perhaps one of the greatest issues with the Marketing Mix is that it’s invariably orientated from the perspective of the Business selling to a Customer, rather than from the perspective of the Customer to the Business. Value must always be seen from the perspective of customers. Knowing your customer(s) in important. Many companies and large ones at that, fail to appreciate the true value proposition through the eyes of their customers. As a basic example, a building products retailer that doesn’t have the full range of items for a plumber will lose many customers as their time is valuable as it’s inefficient to visit more than one store.
Hopefully it is self-evident that you want to maximise price and therefore margin by additionally placing emphasis on other factors of the marketing mix, than solely focusing on being the lowest price seller. (Numerous business owners lament the issues with selling at the lowest price, because it attracts the worst customers!).
Finding and locating customers can be undertaken via numerous methods. The two main types of approaches are:
Identifying and approaching – You pursue them (Push).
Advertising and incentivising – They pursue you (Pull).
Identifying and Approaching - Obtaining lists of potential customers and marketing directly to them. If the nature of business involves repeat buying, then incentives can be extended (Including low price initial offers) and so forth. A database of potential customers can be compiled through internet searches, directories, trade databases and even aspects such as observation of customers visiting competitor sites. Referral bonuses can incentivise loyal customers to introduce others.
Advertising and Incentivising – Effectively putting forward the value proposition and a call to action (Incentivising) so they come to your business and make an initial purchase. Effectively customers self-select, rather than you pursuing them. Identifying potential customers can be difficult especially when they are ordinary consumers that have specific needs at specific times. In the case of an internet-based business with potential customers geographically dispersed, then this type of approach is can be cost effective.
Whatever approach is taken it needs to be cost/benefit optimal especially as time and resources are limited in smaller businesses, as an example there is a current emphasis on utilizing ‘Social Media’, however endless hours on it needs to be justified with a proportional uplift in sales. If it doesn’t deliver sales, it’s unlikely to be an optimal use of time/resource.
Prioritization & Focus
Beyond driving Revenue, a whole host of activities need to be performed in order to maintain and develop the business.
The issue becomes one of Prioritization and Focus.
Generally, you develop an overarching longer-term strategy and then break it down into plans that extend over the next 1, 6, 12 months. Then you break those plans down into effectively action lists. Then you methodically work through those action lists and complete the required activities.
The reason for a formalized documented approach is to overcome things like procrastination, forgetfulness and general lack of efficient focus. As an example, a business owner can focus an inordinate amount of time on ‘branding’ while the business really needs to be generating sales revenue and undertaking a multitude of other activities. Formalization of requirements to progress/deliver various actions ensures that the owner of the business measures their own performance and makes them accountable to their own listed objectives, because nobody else will.
Furthermore, other than necessary compliance type activities (E.g., Sales tax returns) all other activities need to be further assessed as to their cost/benefit to the business in terms of priority and allocation of time/resources. E.g., Focus on ensuring that new customers and sales are properly serviced is absolutely pivotal for gaining recurring / repeat business.
The following sections are issues to focus on in additional to basis day to day operational issues. There are a whole host of questions you can ask of yourself and the business in another article on this website ‘Small business questions and mistakes’
Managing cashflow is absolutely pivotal to many small businesses. Unless the business has a good cash buffer, predictable revenue and lack of one-off material future spend items, then it will need to be up to date with its current and future cash position.
As an example, a business can have numerous competing uses for its available funds. Do you buy more stock that has a favorable discount on it currently? What about that piece of expensive equipment that needs buying? What about the next tax instalment that needs paying? Given the complexity of business it is easy to lose sight of future demands on funds which can create substantial operating issues. I.e., Your suppliers put you on credit stop because you don’t have cash to settle previous purchase debts. Chaos is inefficient and ultimately unneeded stress.
To manage Cashflow, there are two elements
Simplistically it is cash budgeting, however as it is future orientated / projected, it is referred to as a forecast. It is effectively cash inflows from sales less outgoings of cash for the cost of those sales, overheads and any capital or tax items. Normally this is projected on a monthly basis and for the next 12 months.
Minimise working capital requirements
Within the businesses operations there can be areas which can tie up a lot of cash, hence they need to be as lean as possible. As examples consider stock and debtors. If the business has a lot of excess stock, then it ties up cash. Similarly with debtors, if these are not actively chased and ensured they are paid within the credit terms, then it is possible to have a lot of outstanding funds that need collection. Collectively, the funds used in the general operations to facilitate sales and run operations are referred to as working capital, academically it is Current Assets less Current Liabilities.
Cost control is also critical. If cashflows are tight, then all forms of expenditure need to be assessed and reviewed as to where the limited funds can be spent or in which time frame.
Working capital can be freed up through various forms of financing and ownership models, as an example, the lease of plant/machinery rather than purchase.
Covering all bases
Unfortunately, small businesses need to cover all the same bases as larger businesses but without dedicated employees to specific tasks. With the owner/founder additionally trying to cover off tasks such as IT, HR, Accounting, it can lead to lack of focus and not concentrating efforts into the most productive elements of the business, namely controlling / coordinating and growing revenues. There are only so many hours in the day and burnout can eventually become a big issue.
Hiring such skills on a freelance, remote, part time basis can be a cost-efficient solution.