Audio 4 minutes
There is a reason why SMEs stay SMEs or disappear completely often leaving shareholders with little or nothing, creditors with unrecoverable losses, employees looking for jobs, and families struggling to weather the storm of failure and bankruptcy.
The reason for this can be traced to five issues that most founders have given little to no thought about. They are:
- Underinformed: People who start a business usually have been employed by a successful entrepreneur and they have no idea how difficult it is to guide a business to success. What they have seen is him or her extract considerable compensation from the business. Positive cash flow is not at all unusual when a business matures and its growth slows. What the aspiring entrepreneurs don’t realise is that it has probably taken their employer many years to get the business to this stage of its development during which its owners experienced considerable financial and personal stress to keep it afloat.
- Limited market: Most markets in mature economies operate at a capacity level that meets customer demand. This is how economic systems work. Through positive and negative feedback loops they tend to an equilibrium where the market grows at about the population growth. When a new business enters the market it must take market share away from incumbent businesses. This might be enough to give the founders hope but it is rarely enough to launch them into a rapid growth stage.
- Undercapitalized: It often doesn’t cost much to get started in a business but it doesn’t take long for the owners to discover how difficult it is to grow revenue to a point where the business is generating sufficient cash flow to meet their growth-driven funding needs and their lifestyle aspirations is very hard.
- No Strategy: The lack of a coherent competitive strategy and related business model that has reasonable odds of securing market share or creating a new market space through differentiation, cost economies or both.
- Lack of Management Experience: Typically founders in mature markets have very strong skills in those aspects of the business that involve creating the products or services the business offers. This results in them spending a disproportionate amount of time working IN the business rather than ON it as famously explained by Michael Gerber. There are four reasons for this : (1) they are good at it and like doing it; (2) being busy makes them feel they’re being productive; (3) it gives them a reason for not dealing with financial issues, team members, and customer challenges—things they don’t like; (4) they believe if they work harder they’ll eventually come out ahead but that rarely happens. Important management responsibilities like creating a robust strategy, hiring and developing competent team members, and understanding and managing the financial aspects of the business are ignored.
From an advisor’s perspective it is important to understand that what I have described above play out in varying degrees for all startups and for this reason I believe you should engage all new business founders in a conversation on these points. This conversation may result in the aspiring founder deciding not to go ahead or to do so with a better understanding of what lies ahead. In both cases you would have provided an incredibly valuable service. It is also the reason I would not take on a client who, having had this conversation decided to go ahead anyway because s/he believed they knew better and would be able to work around any challenge that was likely to arise. My view has always been that when you take on a new client you’re making an investment in a relationship and if the odds of the client’s success is low your ROI will be low and probably negative.