Why do small businesses fail to grow?

Large corporations have dominated the stock market however, small businesses are considered the pillars of economic growth. In the UK, out of the 5.2m businesses, 99% of them are small businesses. Post-recession, small businesses have played a major role in increasing employment, delivering prosperity for millions of people all over the UK and thus helping the economy grow. 

Small businesses tend to be more agile and help boost employment like no other organisation. Precisely, they account for 48% of the private sector employment. Hence, their existence is significant for our economy and communities. Helping small businesses helps our society too. However, small businesses are more prone to experiencing loss or bankruptcy and numerous aspiring small businesses tend to fail.

What per cent of UK small businesses fail within the first year?

Data published in the Small Business Administration Office of Advocacy demonstrated that nearly 20% of small businesses fail in the first year itself. Five years down the line, only 50% survive and a full 70% cease to exist in ten years. 

Therefore, it is essential to understand the key reasons why small businesses fail so that they can be managed and avoided when the time comes. According to Martin Campbell, the managing director of one of the fastest-growing and innovative fintech startups in the UK, the country is becoming more entrepreneurial than ever before.

Why do so many small businesses fail to grow?

As a growing number of people perceive launching a small business as a more rewarding option than working for someone else, being aware of potential hurdles is crucial. Some of the most common barriers for small businesses include lack of working capital or cash flow problems, inadequate management, and a flawed business model.

Here are three primary reasons for the failure of small businesses: 

1. Poor Cash Flow

Managing the cash flow is undoubtedly the most challenging aspect of running a business. Meaning, regardless of a comprehensive business model, projected profitability, or the number of investors are supporting your business, survival will seem a far stretch if you cannot manage your company’s cash flow or funds effectively. A study conducted by the US Bank points out that 82 per cent of businesses fail due to poor cash flow management. 

Even large companies failed due to cash flow problems. If a company that seemed almost invincible bites the dust had a name, it would be “doing-an-Enron”. Enron Corporation, an energy supplier and trader giant in the US had “revenue” of $100 million at the beginning of 2001. By the end of the same year, they filed for bankruptcy. The reason for their demise was accounting loopholes and false error reporting to cover up large sums of debt from unsuccessful projects. Enron’s executives also forced auditors to destroy any evidence. Without much liquidity, the company went out of business with its stakeholders suffering major financial havoc. 

Similarly, small businesses in their initial phases face various financial problems. Some of those are inevitable like death and taxes. Anticipating every financing requirement for product launch, expansion or marketing costs is simply unattainable. Even though investors, venture capitalists, and bank loans are possible funding sources for small businesses, the growth trajectory or revenue stream they require to obtain adequate funding from them is not something every business can achieve. Cash flow issues can arise due to overestimated future sales, overspending during the startup phase, pending receivables from customers buying on a credit basis, absence of a cash flow budget, among others.

To reiterate, cash flow problems are major challenges for small businesses since they can stagnate growth and alter possible trajectories in an unfavourable direction. However, if you remain objective, avoid unnecessary spending and plan for potential curveballs, you’ll thrive in the long run. In the case of Digitavia, that grew with 68 staff members and made over £12m in sales in five short years. They are one of the most trusted innovators delivering meeting room solutions globally. Moreover, they reached great heights without external investment. They were vigilant about the spending and liquidity of their business. After its brilliant success, US-based Diversified proposed an acquisition. “Combining our specialised services with Diversified’s strong engineering focus and market position will provide limitless opportunities to scale and improve the overall client experience,” stated Digitavia’s Darren Pitt. 

2. Business failure due to lack of Management

Bad news: merely 20 per cent of all businesses survive after the first 8 to 10 years. 

Good news: 90 per cent of all businesses fail due to poor management choices. 

The above categorisation is important to understand. The dire need to make sense of patterns in the failure of small businesses is key to effectively tackling them. Thus, it is “good” news because identifying the problem is the first step towards progress. 

An article in the Management Review, investigating the predominant factors that led the small businesses towards failure, emphasised the lack of a competent management team as the most common reason for the failure of small businesses. Entrepreneurs that have just begun their careers, tend to lack relevant enterprise and management expertise. Making appropriate financing, purchasing, selling, producing, and recruiting and managing employees may prove difficult. Hence, owners of small businesses can educate themselves by upskilling or outsourcing work to competent professionals.

Simultaneously, the owner might possess skills needed to produce and sell products or services, they might lack the attributes of an efficient manager that can oversee other employees at all times. Thus, in the absence of a dedicated management team, the business is highly susceptible to mismanagement of certain aspects involving finances, recruitment or marketing. 

Mojo Media Labs based in the US is a great example of how the right kind of management can be groundbreaking. Micheal Rose founded this full-service marketing firm in 2008 but did not thrive until 2019. When it took over SpinWeb, a digital marketing agency based in Indianapolis, their open-book management style complemented SpinWeb’s result’s driven work ambience. The employee felt more engaged and the business followed suit. Rose concludes, “As a result of these programs, we’ve almost eliminated the employee and client churn that is the Achilles’ heel of any digital agency.”

This is to say that the right management decisions can help your small business take off!

3. Business failure due to unclear Business Plan

Small businesses often rush into operations without laying out an exhaustive business plan. A thorough business plan would include: 

• A concise and clear description of the business
• Present and potential staff and management needs
• Possible threats within the overall market 
• Working capital needs projected cash flow + budgets
• Competitor analysis

Here is a comprehensive guide on how to write a robust business plan for 2022.

A profitable business model would sufficiently identify and define your Unique Value Proposition. Meaning, what makes you different from your competitors. Such a sustainable model requires clearly defining what sets you apart. However, despite a clearly defined UVP, your model can be the reason for a business’ failure if you haven’t put enough thought into its planning. 

A common problem to occur as a result is a poorly defined niche that the business commences its operations in. When your business hasn’t been planned enough, there is a greater risk of selecting an unclear niche. It restricts would your business to a particular target audience for your products or services. An unprofitable model fails to correctly identify this said target group. Since there are very few small businesses out there that work on a ‘one-size-fits-all’ policy, there is a need to be as precise about your niche as possible. 

Businesses that fail to address the potential and growing needs of the business through a robust plan before setting up can face severe challenges. In many cases, unclear, unadaptable and barely reviewed business plans meet overwhelming obstacles throughout its business cycle. 

Likewise, when Guy Mucklow launched Pubowner.com, a website where pub landlords could search for properties, find interested employees and buy goods and services. The business never took off since there weren’t enough sales. After having to burn through his savings, he decided to dissolve the business. Post which, ‘We failed because our model was too narrowly targeted at a market that was dominated by three or four big players.’ he admitted.  ‘We were aiming for too narrow a market with a proposition that had very limited appeal. More importantly, we were also far too early in the market cycle, a lesson that many start-up technology companies perhaps fail to appreciate until it’s too late.’

Key Takeaways

Despite all these possible hurdles, we must realise that failure is a part of success. The story doesn’t have to end after you fail. Running a small business in this vastly connected world can be overwhelming but understanding that we are trying to learn from our experiences is important.

Yes, there is data out there to prove the supposed demise of half of all small businesses within 10 years, however, it also means that with the help of this data, you can set up your small business and make it more agile and resilient to survive possible challenges. And remember, Rome wasn’t built in a day.