Stock investors have rediscovered Warren Buffett’s investment principle of ‘never lose money’ and entrepreneurs are now focused on how to avoid small business failure, rather than searching for growth at all costs.
So have we all become neg-heads? Not at all, instead there is a new realism to what it means to grow a successful business and that it all begins with understanding business failure and how to avoid it so that your business has time and space to innovate.
Okay, so what are the 5 ways to avoid small business failure?
1. Take no debt
Debt ties you down and stops you being flexible. However, in my experience, the worst problem is that it encourages entrepreneurs to hold onto a business idea that isn’t going to work and it stops them looking developing that idea into something that can make money.
For most entrepreneurs, debt involves putting up prized assets, such as a home. This then involves your partner or family (most probably) in the outcome of your business and they too become emotionally attached to your business idea not failing.
Strangely enough, taking debt removes your freedom to fail and the learn from that business failure – because something as important as your home is on the line. Don’t do it – give yourself time to fail and learn from business failure – this is the only way to create a truely unique product, service or business.
2. Make your costs as flexible as your contracts
Next up – costs! These are a big issue in the early days because whilst customers and clients may buy from you once, there is no guarantee that they will buy again.
Equally, in a tough economic climate, most businesses will not provide a contract but want to buy your services on a drip feed or bit by bit basis. In this case, if you lose a contract – or it simply isn’t renewed – then you need to be able to adjust your costs just as quickly. This means – no fixed costs!
Examples of fixed costs include permanent staff (but not freelancers, and you can now advertise freelance jobs free), office space, cars and phone contracts. None of this necessary. So why do so many entrepreneurs make this mistake? Well, somehow having an office to go to, or a car to ride in gives a new entrepreneur (or ex-student / ex-employee) a feeling of comfort. So fight the feeling!
I can tell you it is far more comfortable to know you can pay your bills than have a soft expensive chair to sit on.
3. Take no partners nor shareholders
Partners and shareholders require rules – lots of them.
The rules need to cover how the business is governed and run, how the money gets spent, who gets the profit and salaries and what happens when it goes wrong. Sound simple? It isn’t.
Imagine setting up a government – democratic-ish – where some people have more votes than others – on a small island and then you’ll have some idea of the complexity. Imagine that as the island becomes successful it grows, more land, more people (some with votes, many without), a few ambitious barons and yes, you have idea of the increase in complexity that follows initial success.
Now, many small businesses take on partners to dish out shares because at the outset when they are worthless. Well here is the bad news, as soon as the business is worth something, then you’ll need all the rules and constitution of a small island.
Yes, after an intial success, your business will almost certainly fail if, for instance, you have some partners or shareholders on a free ride whilst other are working their socks off.
Of course, if you are raising 10m GBP or US Dollars, then you’ll need partners, shareholders and a constitution – but at least you can now afford the lawyers to set it up and run it correctly. Anything else is a massive distraction to be avoided like the plague.
4. Reward people for great work with more work (not profit share, stock options)
Okay, mistake number four; you’ve got your partners and handed them large chunks of shares, now you’ll be thinking about giving more shares to your employees. C’mon, this does not make sense.
You reward great work by paying on time and a renewed contract. Simple. Why pay a second time in the form of share options?
Share options distract your team from growing the underlying value of the business and encourage them to see a quick sale on a hyped up valuation. The result? The business will take on massive risk in order to grow as fast as it can whilst also massively increasing the risk of out right business failure.
Of course, the option holders don’t lose out if the business fails, they just move onto the next opportunity. It is the original shareholder(s) who lose out. Therefore, the incentives of a shareholder / founder and an employee on a stock option deal are in conflict and yes, poor decisions/ risk management is what you’ll end up with. This is a recipe for failure not for success.
5. Don’t forget – it is all about product, price and perception – nothing else matters
Hopefully, you’ll now be ready to buy into the idea that debt, fixed and inflexible costs, shareholder partners and stock option incentives are a route to business failure. The essential problem with all of these is, that whilst they can all be resolved by patient management, they are a huge distraction from what really matters – product, price, perception and the sales that come from that.
Now, partners, shareholders, fixed costs and share options all have their place in large or very large ventures – or those that are funded by Venture Capital. They just don’t have a place in small, innovative start ups.
So, the biggest cause of small business failure is the inability to focus on what your business does.
So, focus on price – that means, deliver the best price whilst producing a profit and constantly drive your costs per product down so that you remain competitive and can grow. Equally, a program of constantly enhancing and improving your product is critical too.
Customers will stay with you if they see the product they buy gets better – whilst the price remains static / low or even better, falls. Lastly, this will allow you to concentrate on the perception your customers have of your business and your products and services. Now, you may think this is about marketing, and it is, but not big advertising and promotional marketing. Instead, it is all about how your customers – current, previous and future – think about your business, products/service and customer service.
Another way to think about this is to simply call it innovation. You need to innovate, constantly and re-invent your business, products and services. Look, great pop stars such as David Bowie, Madonna etc have done it all their career. You need to do the same.
So, the cause of small business failure is largely down to an inability to focus on what matters – product, price and perception – which is often caused by a mix of debt, rigid costs, partner/ shareholder complexity, share options.
This ability to innovate around your business or technology or what ever you do is the key and is the result of being able to avoid the key reasons for small business failure.
So, let’s learn from these mistakes. Innovate and avoid these things and focus relentlessly on what matters.