Business failure is defined as the closing of a business that results in financial loss for at least one of the business’s creditors. An associated term, business dissolution, refers to the formal termination or closure of a business as well, but with dissolution, financial loss (for the business owner or for the business’s creditors) is not necessarily a part of the equation.

All entrepreneurs who decide to establish their own business face the possibility of failure and a good deal of popular wisdom holds that failure is not only possible but probable for the business owner seeking to launch his or her own enterprise. It has long been said that four out of five new businesses fail within five years of their establishment. But current studies indicate that such gloomy forecasts often present a false picture of entrepreneurial realities. Indeed, many business experts agree that the majority of small business owners are actually successful with their ventures. Outright failures are in fact remarkably rare.


Business experts who study the gap between actual rates of business failure and the popular perception of those rates often blame it on a general misunderstanding of the nature of business dissolutions. The confusion comes in mixing up business failures with business dissolutions. Lots of companies go out of business for reasons that probably shouldn’t be called “failures.” The owner may have gotten bored, for instance, may be disappointed with returns, or may simply want to try greener pasture. If the entrepreneur closes one business and starts another that is more successful, that’s one reason for celebration than concern. Research studies indicate that there are four to eight times as many dissolutions as there are outright business failures.


Why a Business May Fail

Thousands of business ventures do fail every year globally. Companies stumble for many reasons, among them bureaucracy, arrogance, tired executive blood, poor planning, short-term investment horizons, inadequate skills and resources, and just plain bad luck. These factors, as well as myriad of others, can have a debilitating impact on an operation, as many business surveys will attest. Chief reasons for business failure cited within such surveys include the following:


Poor Planning

Ultimately, many businesses fail because of fundamental shortcomings in their business planning. Planning starts with finding the right business and is integral to every aspect of business operations, including selecting a site, decision on financing, anticipating workforce needs, budgeting, and managing company growth. Planning that is grounded in realistic expectations and accurate, current information is an invaluable asset. Conversely, planning that is based on hopes and hearsay can cripple or destroy even a good business idea in fairly short order.


Poorly Conceived Expansion

Every business owner wants to grow his or her own business, but expanding with no infrastructure in place makes a business ripe for failure. You can incur tremendous losses when you expand outside your core market. Not only is the physical aspect of expansion costly, there are different buying habits in different geographical locations. If you venture into an area outside your home turf, you had better prepare by doing a lot of research.


Cash Flow Difficulties

Poor cash flow kills thousands of small businesses every year. Most business owners don’t realize how much money it takes to run a business. Understand what it takes to get a revolving line of credit before you start your business. It’s always easier to get money when you don’t need it, so don’t wait until you’re desperate. Develop your business plan using conservative projections and don’t be overly optimistic. A business analyst warned that profitable, fast-growing businesses can also run into cash crunches that can ultimately lead to bankruptcy. That is why ongoing cash analysis (tracking the money coming in and going out of the business) is necessary.


Inability to rein in flawed business strategies

Some business owners simply refuse to admit when they are wrong. Many businesses can recover from ill-conceived business initiatives if they are recognized and halted before too much damage is done. But all too often, business owners and managers stubbornly stick with strategies that are doomed to failure, rationalizing that the initiative will begin paying off next month or next quarter. And before they know it, their business is gone, dragged down by poor planning and inordinate pride.

In most cases, top management sets its sights on some grand but imperfectly conceived objective, launches an incompetent plan of action, pours in cash rather than control when the action misfires, and ignores all the adverse evidence until the disaster strikes.


Deteriorating Customer Base

This can happen for any number of reasons, including poor service, high prices, and new competitors. Making improvements in products/services offered, marketing, inventory, customer service, and work force personnel can all do a great deal to halt deterioration in customer relations.


Inattention to warning signs

Most business failures do not come out of the blue. Certainly, business failures that result from catastrophic natural disasters or the sudden death of a key business member cannot be anticipated, but most businesses expire as a result of more mundane factors. New customer complaints and surges in returns are often early warning signs of operational problems. 

Basic financial tools such as balance sheets and financial statements, meanwhile, can be very helpful tools in helping business owners diagnose what is ailing their company. The numbers contained in those documents often provide ample warning of poor cash flow management, inventory problems, excessive debt, undercapitalization, or untrustworthy customers, but the business owner has to take the time to look (or take the time to hire an accountant to look) or the warning signs may go unheeded until it is too late.

Other reasons often given for business failures include the following:

  • Inattentive/or indecisive management
  • Micromanagement
  • Poor control of production costs
  • Poor control of product or service quality
  • Underpricing of goods or services sold
  • Inadequate staff training
  • Loss of key employees or business partners, either to extended absence or another company
  • Unhealthy company culture
  • Overreliance on one customer
  • Overinvestment in new technologies of untested value
  • Inadequate financing
  • Inadequate insurance
  • Inadequate tax planning
  • Failure to promote and maintain a good public image in the community  and/or market place
  • Poor control of inventory
  • Poor relationships with suppliers/vendors
  • Poor/unmotivated employees
  • Inadequate or subpar professional assistance (accountants, attorneys, etc.)
  • Competition
  • Failure to anticipate marketplace trends and developments
  • Undue emphasis on products or services of limited popularity
  • Poor  budgeting decisions
  • Extending too much credit
  • Inattention to financial indications of company health
  • Flawed or discarded business plan
  • Excessive reliance on credit.


Recovering From Business Failure

Business failure is usually a demoralizing event in a person’s life because it impacts both professional and personal self-esteem. Indeed, many experts believe that the entrepreneur who experiences a business failure goes through many of the same stages as individuals who suffer from the loss of a friend or loved one – shock, denial, anger, depression, and acceptance. But observers are quick to point out that people who experience business failure can still go on to lead rewarding professional lives, either as part of another company, or down the line, in another entrepreneurial venture.

Many analysts believe that chances of subsequent success in the business world often hinge on the entrepreneur’s activities in the first year or two after the failure has occurred. After a business failure, you need a period of decompression to rethink and recharge. People are too quick to rush to the next thing just to prove they can do it. Instead, victims of business failure are often urged to take the time to honestly examine the reasons for the failure, even as they return to the work world in their old capacity as employee.

Was your marketing plan flawed? Did you underestimate the amount of time it would take to become profitable? Did your manufacturing process compromise product quality? Was your family fully committed to supporting the endeavor? Dis you pay much attention to workforce training issues?  Business consultants strongly encourage entrepreneurs to seek out the opinion of others – industry experts, area businesspeople, loan officers, investors, family members, etc. –  when taking on this task, for their perspectives can be invaluable in helping you  to establish a successful business on your next attempt. 

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Bernard Taiwo

I am Management strategist, Editor and Publisher.

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