The current recessionary climate has caused many businesses to fail. Committed to high costs, they face falling revenues. Cutting back only makes matters worse. With fewer staff, service levels drop and customers vote with their feet. The business moves from profit to loss and is forced to close.
CASH FLOW – THE BIGGEST KILLER
New businesses fail in large numbers because of cash-flow. Many new businesses start with viable ideas and good products. To the outsider it may seem that the business is thriving. The founder is onto something good. But a few months down the line the business has shut its doors. Cash flow is the biggest killer of new businesses and can even impact negatively on larger more established firms.
Staying in business is not all plain sailing. Expenses have to be met now, while paid is a different story. Suppliers often insist on upfront payments for goods and services especially when the business is new and does not have a track record. The staff must be paid on time – usually at the end of each month or week.
The expenses that must be met can be considerable. The projected earnings may be substantial, but the inevitable delays in collecting these earning can cause a cash flow crisis.
Many customers - especially the large retail outlets - pay their suppliers anything from 30 days to 120 days later. In spite of the fact that the new business is running at a profit the delay between expenditure and income is just too long and the business is forced to shut its doors. Although there is money in the pipeline, there are no funds to pay the staff.
HIGH COSTS
The global economy is cyclical by nature moving from boom to recession and back to boom. Through boom times many businesses grow to meet increasing demand. New plants are built to increase capacity, new branches are opened and contracts signed.
The unexpected onset of a recession may mean that the business is suddenly faced with reduced sales and high fixed costs. Suddenly, there is spare capacity. Last years profits are transformed into major losses and the business has nowhere to turn.
Every industry has its own economic cycle that may be distinct from the global cycles that affect every industry. While one industry booms, another may be struggling for survival. These cycles are often difficult to predict. It is generally the businesses with high fixed costs that suffer most.
COMPETITIVE SHOCKS
A thriving business sometimes has to face dramatic changes in the competitive environment. These may be in the form of increased competition as a result of open markets, or because a competitor releases a new product that renders yours obsolete.
Some of the world’s largest and most solid companies have had to face this scenario in the past. IBM nearly failed when it dismissed the PC as a fringe market. IBM had enough resources to buy its way back into the market, but many smaller companies are not so lucky.
With all business resources geared towards the production of a product that is no longer wanted, a business may have no choice but to shut its doors. Many traditional industries have faced this situation over the years.
FAILURE TO INVEST
Businesses sometimes fail because of a failure to invest in new technology when the business is doing well. As competitors develop more efficient plant and production methods, the business clings to its traditional technology.
The business finds itself in a situation where competitors are able to offer similar or better goods at lower prices. Sales fall, profits become losses and before long the business has failed.
LOCATION AND ECONOMIC CLIMATE
Timing and location are important considerations.
A few years ago a developer bought up a small shopping centre in a Johannesburg suburb. He had a vision of an architectural masterpiece comprising upmarket apartments above a thriving shopping centre.
The building was completed just as the recession began to bite. The apartments proved to be too expensive for the area. Many of the shops are vacant and the two restaurants spend most of their time awaiting customers. The centre has become known as a "white elephant".
The location is predominantly middle class. The apartments were launched onto the market at high prices long after the residential property market boom was over.
Reasons for the centre's failure include a misreading of the location. Perhaps the concept would have stood a better chance in a more upmarket area? With the property market in decline and retail business under pressure, the timing turned out to be a disaster.
Building began during a seemingly endless property boom.
There are already many popular and busy shopping centres in the area.
A third consideration in this case is price. Hoping to start realising a return on investment, the developers out priced both the residential apartments and the commercial rentals. As the months pass and the centre remains quiet, the shop and restaurant space becomes less marketable. A catch 22 situation has developed. The centre will not attract customers until there are many more shops and restaurants to attract them. Retailers and restaurateurs will not take up the space until there are customers.
MISMANAGEMENT AND MISADVENTURE
Mismanagement and misadventure also cause failure. Recent events have demonstrated the potentially devastating effect of poor investments. Driven by greed, many major international businesses invested heavily in what appeared to be a lucrative investment. But an investment must have underlying value, without which it will pop.
The sub-prime mortgage crisis is a case in point. Banks and investors world-wide put their money into these “structured investments”. The value of the investments soon exceeded the underlying value of the low grade housing loans on which they were based. Most investors geared their investment by up to 90 per cent. The bubble eventually burst, bringing down major banks, investment houses and insurance companies.
CUSTOMER SERVICE
A business that places the customer low on its list of priorities is almost certainly doomed to failure. Greed is often the driving force behind the failure to provide quality customer service. A business with a strong customer focus will make money. A business that focuses on making money at the expense of the customer will fail, sooner or later.
Customers have a strange tendency to look elsewhere when the service fails.
Reasons for business failure are many. Cash flow is often at the core, but there are many other causes.