There are many reasons why businesses fail, but often these problems can be solved if management are alert, seek help and act quickly. The following three areas often come up:
This is the most common reason a business underperforms. It occurs when a business fails to adapt to changes in its industry, or to customers’ evolving needs.
An obvious example is Blockbuster Video, which failed to keep up with technological changes and consumer habits. The majority of its customers had moved onto mail order DVDs and video streaming while the business was still operating bricks-and-mortar rental stores.
Overtrading occurs when a business grows faster than it can sustain with its current finance. In practical terms, this typically means sale orders and purchases increasing, but the business runs out of cash to pay its suppliers before the increased sales can be converted to cash. In a worst-case scenario, this can force a profitable business to cease trading.
Overtrading can be difficult to spot early on because the symptoms – an increase in sales and profitability – are positive. Later signs such as monthly additional borrowing or dependency on specific customer payment to make it through the month are typical cash flow problems.
The ultimate reason for a business failing, whatever the underlying problem, is almost always down to it running out of cash; whether due to losses, overtrading or loss of a major client.
When cash becomes an issue you will often find yourself fire-fighting. If the matter is not addressed promptly and managed effectively, the situation will escalate and often result in business failure.
When faced with a working capital problem, you must understand why. Has turnover suffered? Is the business profitable? Is further finance required? Take a step back, identify where the principal problems lie and put a resolution plan in place. At the same time, manage your cash so payments can continue to be made while the underlying problem is addressed.
A cash flow forecast, ideally with a profit-and-loss forecast, detailing each cash inflow and outflow is essential to manage the position. Review each payment, establishing which are essential, which may be delayed and where cost could be cut altogether without adverse effects.