Five out of every ten businesses fail within the first year! 95% fail within 5 years! Statements are made like this all of the time as if they were fact. Is it a scare tactic or is there a serious problem? If the business failure rate is 95% in the first 5 years why would anyone start a new business? The fact is, no one really knows what the business failure rate is.
At the State and Federal government level it is known how many businesses start, file returns, and stop operating each year. The government however doesn't keep track of the reasons a business stops operating. They only recognize the fact that the business is no longer operating. This would be OK except not all businesses stop operating because they fail. There are many reasons other than failure for businesses to stop.
One of the reasons a company stops operating is the reason it was created in the first place. Many companies are set up for a purpose other than selling products and/or services. Companies started for tax reduction reasons are an example. These companies are created only as a "shell" that does not conduct business in the usual fashion. They do not employ people or sell anything. These companies last only as long as the tax reduction exists for them. Once the tax reduction goes away, so does this type of company.
Another reason some businesses stop is a result of a merger or acquisition. In this situation the company is absorbed by another. The company stops but it is not because it was a failure. It just goes away as a separate legal entity.
For many small private businesses the reason they no longer exist is because of the owner. Perhaps he or she decides to retire or maybe he or she dies. In either case if there is no one willing or available to continue the business it will cease to exist. Again the reason these companies stop is not because they fail.
Recognizing not all businesses cease to exist because they fail and knowing that State and Federal governments do not have the answer requires you to look elsewhere for the reasons businesses fail.
Three recent independent studies agree that 50% of companies really do fail within their first 4 years and that since 2007 there has been a 40% increase in failures. This is not surprising given what has happened to the U.S. economy since 2007. Even very large companies have had serious problems and several have teetered on the edge of extinction before they were "bailed out" financially by the U.S. Government. Some of the most notable of these "To Big to Fail" organizations are: Freddie Mac, Fannie Mae, Citigroup, General Motors, Chrysler, GMAC, Bank of America, Wells Fargo, and AIG.
At present the economy is too often given as the reason why a business is struggling and failing. If you look deeper into the company there is a more fundamental reason for its problems. For those contemplating starting a business or those that already have a business what needs to be discussed are the real reasons businesses struggle and end up failing. It is only by recognizing these more common business failure reasons, owners can take the steps necessary to avoid them and move towards success.
The Three Key New Business Failure Reasons
Most businesses are not started by a genius or a person you would think of as an entrepreneur (i.e. Steve Jobs or Bill Gates). The majority of businesses are started by regular, normal people just like you and me. Some of the traits typical of new business owners are:
They worked in the same type of business before or it was a hobby for them before they started the new business.
They left their prior job as the result of retiring, being laid off, or having a falling out with their boss which caused them to quit or get fired.
They have a high school education and may have attended college but they rarely have any business education.
Typically, the new business owner knows the technical or operational side of their business since this is what they did in their previous work life. They do what they know and as a result, when they create their new business, what they really do is create a job for themselves. For those of that have been down the business ownership road, we know ownership requires much more than doing a job like the one we had at our previous employment.
Here are what I believe are the three key reasons for new business failure, why and how they should be avoided:
Reason #1 - A Poor Business Concept
Many new businesses are doomed from the beginning because they are based upon a poor business concept. A poor business concept is one that does not generate at least the minimum amount of revenue needed to support it. I have always been amazed at the number of businesses started based on nothing more than a whim or gut feeling. The new business owner doesn't make sure the business will satisfy a potential customer's need or desire. Rarely does the new business owner check to make sure that there will be sufficient customer demand for the new business products or services. In the business jungle, if you offer something nobody wants, or is not willing to buy your business is doomed for failure. It is only a matter of time.
Reason #2 - Lack of Realistic and Practical Business Planning
I have been working with private business owners, presidents, and CEOs for more than 30 years and the one reason I consistently see for businesses struggling and facing failure is the lack of realistic and practical business planning. This is understandable since:
There are very few places where you can learn how to do business planning that is practical and will work for a new business.
Most new business owners aren't exposed to planning at any point in their employment or training (other than maybe preparing budgets).
Business planning takes time and because most business owners do not understand it, they do not take the time to do it.
Here is a simple way to think about the importance of realistic and practical business planning in a new business. Think of it as going on a voyage around the world beginning at your current location starting tomorrow. What would you do first? My guess is you would PLAN IT!!! You would figure out the best course to follow, how long it was going to take; the things you would need to take along with you; and what you would need to learn before you jumped on the ship and sailed out into the ocean. Planning for your business is no different than you planning for a voyage around the world. You need to do the same things so you will survive and end up when and where you want to be. There is a famous phrase about what it takes to be successful in business and it goes like this: "Plan Your Work and Work Your Plan."
Reason #3 - Lack of Business Knowledge
Very few people have spent their working life as a business owner. Most business owners did not go to business school. Most business owners started out at an entry-level position and worked their way up to a higher level. It is extremely rare that this job progression provided the new business owner with all of the business knowledge he or she needs to ensure the success of their new venture. Unfortunately, the technical or operational portion of the business is not all that is required for a new business to succeed. If it was, almost every new business owner would have a successful business.
I have met a lot of people who thought they knew everything they needed to know. But I have never met anyone that actually knew everything they needed to know to make their business successful. The smartest and most successful business people have sought out and continued to gain new business knowledge. To be successful with your new business, learning must be mandatory. The only constant in the world is change. Knowing and finding out what you do not know will make your business journey much more successful.