Top five reasons why businesses fail

Posted by Customer Service Agent 3 on
On average, around two thirds of all start-ups will fail within their first year of business. This is a dramatic statistic, and one that becomes worse in certain parts of the country. In parts of Yorkshire, for example, business failure rates have reached almost 80 per cent.

It is difficult to run a business at the best of times. But, as many accountants have recently warned, the 18 months immediately following a return to economic growth is a particularly dangerous period. Many firms find themselves spread too thin, and poorly equipped to negotiate the new financial terrain that a recovery presents. At the same time, suppliers will begin to tighten their terms and chase debts more aggressively.

Even the most profitable firms can find themselves endangered by apparently unremarkable circumstances. Awareness is vital if you are to avoid this unfortunate fate. So what are some of the most common reasons for business failure?

1. Cashflow management

Poor cashflow management is the primary reason for a vast proportion of business failures. Many profitable companies find that they are, for all practical purposes, insolvent – simply because of uneven cashflow. Your year-end profit and loss sheets are virtually irrelevant here; the key is to have enough cash coming in to meet your necessary expenditure on a month-by-month basis.

Efficient cashflow management relies on you spreading out your expenditure as much as possible, and ensuring that customer invoices are settled in a timely manner. You should decide on payment terms and uphold them strictly as far as possible; these terms might be payment on receipt, or you might give your customers 30 days to settle their accounts. Your choice will depend, to a great extent, on the nature of the industry in which you operate.

You may also wish to investigate invoice finance products. These facilities mean that you can borrow up to 90 per cent of the face value of your invoices within as little as 24 hours. This type of lending is also valuable because your invoice finance lender can take on the task of chasing payment for you. This can all be done entirely transparently, meaning that your clients need never know you have made use of such a facility.

2. Lack of focus

Another common reason for business failure is so-called ‘scope creep’. This is a major problem in project management, but it extends to organisations as a whole.

Many firms spread themselves too thin. Presuming that operating in a large number of markets will increase their potential turnover, some business managers commit resources in too many places and on too many projects. In many cases this means that firms enter markets of which they have little or no experience, while committing less time and money to their core business.

There is nothing wrong with expanding into new markets. However, you should never enter into a new venture without the necessary expertise and resources, or without carrying out adequate market research. You should also think carefully before you commit to new projects at the expense of your core business.

3. Tax bills

Inability to pay a tax bill is another remarkably common reason for business failure. HM Revenue and Customs will aggressively chase firms that repeatedly fail to settle their tax bills, and they will eventually petition for insolvency.

If you are an employer it is vital that you keep on top of your PAYE payments. Do not get trapped into thinking that you can spend employee deductions now and make up the difference at the end of your PAYE period – on that route lies disaster.

If you are having difficulty paying your tax bill you should contact HMRC immediately. You may qualify for the Time To Pay Scheme, which offers firms extra time if settling a tax bill would cause them significant financial problems. You should note, though, that HMRC appears to be winding the Time To Pay Scheme down and, as such, they may be less receptive to requests for help.

4. Lack of insurance

Sufficient business insurance is vital for the stability of any business. Aside from the fact that many firms have a legal responsibility to get insured, underinsured businesses run the risk of falling prey to cripplingly expensive compensation claims or repair bills in the event of trouble.

For example, a flood in your premises could damage all your fixtures and fittings, leaving you unable to open for business and with a large bill for repairs. Without the insurance to cover the cost, a new business would almost certainly be in trouble.

If you are employer you have an obligation to take out employers’ liability insurance. This will help to protect you against claims arising from injury or illness suffered by an employee in the course of their work.

Even sole traders should seriously consider taking out insurance. If you visit a client’s premises, or if they visit yours, you should invest in public liability insurance. This will pay out in the event of injury or damage to such an individual or their property. Claims arising from incidents of this sort can be easily large enough to bankrupt a small firm, and it is therefore vital that you are properly protected.

5. Reliance on small number of customers

Finally, a large number of businesses fail because they are over-reliant on a very small number of clients. It takes just one unexpected closure to result in significant financial hardship. Short-term future earnings can be massively reduced, and invoices for completed work can go unpaid.

While maintaining caution about spreading yourself too thin, as explained above, you should try not to rely on a very small client base. If you deal with a very few clients, or if a small number make up the bulk of your turnover, you should begin scouting for new work.

Business failure can be quick and unexpected. However, the bulk of failures result from poor management or a lack of forethought. Make sure that you are aware of the major risks facing your firm and you can help ensure that you are in the best possible position to avoid them.