Whether they’re starting a new business from scratch or investing in one that already exists, new small business owners face some pretty startling odds. Most businesses have about a 50/50 chance of long-term survival at best, according to the Small Business Administration. “About half of all new establishments survive five years or more, and about one-third survive 10 years or more,” the SBA says on its website. “As one would expect, the probability of survival increases with a firm’s age. Survival rates have changed little over time.”
That doesn’t sound very promising, now does it? It also makes you wonder: Why do so many small businesses fail?
According to the experts and the laws of common sense, the main reason businesses fail is because they run out of money – or simply don’t make enough of it. Sadly, this is often what happens when business owners at the helm aren’t financially savvy or aware of what it takes to keep their business out of the red for the long haul.
Here’s the thing: Having a solid business idea in your hands doesn’t mean you know the first thing about best business practices, managing cash flow, or pricing your product or service. And much of the time, the creative souls who have smart business ideas don’t have the skill set or knowledge to manage their business funds effectively.
“Why do most businesses fail?” asks Trepoint Founder and CEO on Inc.com. “Because they can’t pay their bills. When you run out of cash, it’s game over.”
Seven Things Small Business Owners Should Do the First Year
This is why it’s crucial for new business owners to understand the basic financial principles that will keep their business afloat – and not just on paper, but in the real world, too.
To figure out what new business owners can do to get on solid financial footing from the beginning, we reached out to several experts who are making their businesses work one dollar at a time. Here’s what they said:
Have a solid business plan – don’t wing it!
One of the biggest mistakes new business owners make is failing to have a long-term plan, says Ellie Shoja, owner of Shoja Entertainment. In an effort to appeal to everyone, they go in too many directions and fail to please, well, anyone. To avoid having a mess on your hands, you need to have a comprehensive and thought-out business plan that you can follow and turn to when you find yourself off track.
“There’s a lot of ‘just try everything’ type of advice out there for new business owners,” says John Turner, CEO and founder of Quiet Kit. “Because you have such a limited amount of time and resources, you have to hone in on the things that will have the biggest impact on your business, and put everything else off,” he says.
Most business owners would also benefit from breaking their plan down into several, smaller “mini-plans,” says Kush Kapila, founder and CEO of Sterlings Mobile.
Kapila believes that “startups are hard, emotionally draining, and there are times that are really tough. You have to have the strength to keep pushing forward.” So, in the first year of business, “break it down into small tasks and work on it every day even if it’s only a few minutes so you don’t lose momentum.”
And yet, you can’t be afraid to change that plan if you need to, Kapila says. “The market will tell you what they want, and you have to be willing to change your business in order to fit their needs. So be ready to change,” he adds.
Don’t spend (too much) money you don’t have yet.
When you first graduate from college, most experts suggest that you continue living like a poor student until your finances are under control. Well, the same thing is true for your new business. While you may have to borrow money to keep your business afloat, don’t borrow more than is absolutely necessary. Just like with your personal finances, keeping your debts under control will help you in the long run.
“Forget about fancy offices, fast cars, and fat expense accounts,” says William Bauer, managing director of Royce Leather Gifts. “Practice and perfect the art of being frugal. Watch every dollar and triple-check every expense.”
Maintain a low overhead and you will be in a better position to manage your cash flow effectively, he says.
When you can’t do-it-yourself, hire the right help.
While it can be smart to take on most tasks yourself when you’re first starting out, the financial aspect of your business may need the attention of someone with experience and know-how.
Ray Mackenzie, a management consultant and business innovation expert, claims that new business owners without a background in bookkeeping or accounting who try to balance their books on their own may be setting themselves up for a world of hurt.
“Hire accurate bookkeepers or accountants,” says Mackenzie, who works for Red Beach Advisors. “Small business owners need to ensure someone is tracking their profits and losses, income and expenses, and receipts.”
Owners also need to prepare the business for tax season, which is another inevitable piece of the puzzle. And when you don’t know what you’re doing, you could easily wind up costing yourself a lot more money than you realize – or even run your business into the ground.
Former editor of Success Magazine Amy Anderson learned this lesson the hard way. “When I first started freelancing back in 2005, I thought that a book on freelance writing was all I needed,” says Amy. “Three years later, I was depressed and broke and headed back to a full-time job. When I relaunched my business a few years later, I immediately called three people: a CPA, an attorney, and a mentor. I had learned that by trying to do everything myself, I was holding myself back.”
Anderson says that spending a little money for an hour consultation with these experts would have made an enormous difference in her success back in 2005. Fortunately, she learned from her mistake and did things the right way the second time around.
Even if you hire help, stay organized.
Even if you’ve hired a professional to manage the financial aspect of your business or take care of basic accounting tasks, it’s important to stay organized. At any given moment, you should be able to see how much cash you have on hand, what your current liabilities are, and what your daily, weekly, and monthly expenses average out to on a regular basis.
Knowing these facts can give you a better picture of where your business is at, and what areas have room for improvement. After all, you can’t brainstorm ways to cut down on your business overhead, daily supplies, and ongoing costs if you don’t know what they are to begin with.
Some advice from Rebecca Bennett, Founder and owner of CityFitLA.com: “Have a separate debit or credit card for purchases. Don’t pay for anything in cash, or if you do get a receipt. Keep all your expense reports and monthly income statements in the same place and up to date so when it comes tax time, it’s not as daunting to collect everything.”
Know your ‘burn rate’ (and when to quit).
With so many businesses destined to fold within the first five or 10 years, it’s inevitable that some people are going to lose money. Elle Kaplan, CEO of LexION Capital Management, takes an interesting approach when she advises new business owners on how to manage their cash flow while also knowing when to throw in the towel.
One of the first things every business owner should figure out, says Kaplan, is their “burn rate.” This is the amount of cash your business will likely burn through every month.
The second component of the plan, says Kaplan, is your individual “runway.”
“This is where your burn rate really comes into play – it’s the make-or-break factor for financial success,” says Kaplan. “If your business hasn’t taken off by the time you reach the end of the runway, you don’t keep driving. You should calculate the length of your runway via your burn rate, and either reassess or know to call it quits when this runway ends.”
Protect yourself financially through incorporation.
When I asked Nellie Akalp, CEO of CorpNet.com, what a new business owner should do to set themselves up for financial success the first year, she pointed out that many new owners fail to protect their personal possessions through incorporation.
A very important step for business owners to take that first year is to get incorporated or form an LLC, she says. After working with many small business owners throughout the years, Akalp found that many don’t believe they need to incorporate since they haven’t made a lot of money yet, or only have a few people on their team.
“The fact is that, no matter how small a team, as soon as any income is made personal assets are at risk if a business owner does not incorporate to start forming that corporate shield,” says Akalp. “A great structure for small or solo teams is the LLC (limited liability company), as it has limited formalities while still providing protection for personal assets.”
The type of business structure you should create depends on the size and scope of your business, as well as the financial structure it uses. Talk to your accountant or lawyer to get the best advice, but always remember that you’re almost always better off if you make your business official as soon as you can.
Never stop hustling – especially in year one.
When you’re trying to get a new business off the ground, you might have to spend several months or even years working at a feverish pace. Most of the time, this is because you only have yourself and maybe a spouse or a few employees to lean on. When you look around and see there is almost no one to delegate to, you wind up doing it all yourself.
Lily Yeh, Founder of Little Loving Hands, was in this position herself at first, but she learned to embrace it instead of becoming overwhelmed.
“When you are the owner, you have to realize that the only person that will keep things going is yourself. There is nobody above you and not anyone that shares the same passion,” she says. “You are the only one that can make it happen and you need to be ready to put in the time and energy and stay positive.”
As your business grows, you should eventually get to the point where you can hire others to take the load off and trust their ability to get the job done. But until you get there, you have to “hustle, hustle, hustle,” says Yeh.
The Bottom Line
Building a new business from the ground up takes at least one smart idea, some understanding of basic business fundamentals, and, of course, some money to get your business off the ground. But if you still want to be in business five, 10, or even 20 years from now, you have to learn to manage cash flow effectively, price your services or products in a way that makes financial sense, and find a way to handle the many ups and downs you’ll face.
Chris Huntley of Huntley Wealth & Insurance Services has been there. Getting a start-up off the ground is “tough,” he says, as is buying an existing business and trying to take it to the next level. The success stories showing how business owners earned millions in a few short months are the exception, not the rule, says Huntley.
“The cold hard truth is starting a business takes patience and hard work. If you lose your cool and perspective you could literally lose everything. Be prepared for bumps in the road and treat everything as a lesson to be learned.”
As a small business owner, some experiences will be more fun than others — but everything you see and experience can help you grow if you have the right attitude.
Do you run a successful business? If so, what steps did you take to keep it financially viable for the long run?