Sometimes businesses fail because they’re in the wrong place at the wrong time. However, many experience failures due to preventable blunders and setbacks. From legal oversights to mismanagement to a downright lack of forethought, there are countless reasons for business failure.
Fortunately, virtually all of them can be prevented by taking simple precautions or by taking the time to educate yourself on the reasons why small business fail. Below, we’ve listed the most common culprits when it comes to why companies fail.
What is Business Failure?
It might sound obvious to some, but the concept of business failure is not so clear-cut. Although some assume that business failure implies filing for bankruptcy, this isn’t necessarily the case in all instances of business failure.
In short, business failure involves an inability to generate a profit or adequate revenue to cover operating expenses. Even profitable businesses can fail if they can’t come up with the necessary cash flow for their expenses and debt payments.
While the reasons for business failure are many, there is a singular outcome when a business goes belly-up: the legal dissolution of the company and the liquidation or redistribution of its assets. However, a failing business can always be merged with or acquired by another entity.
Why Small Businesses Fail: The Common Culprits
Now that we know what business failure is, let’s look over the top reasons why small businesses fail. By taking note of the reasons listed below, you can better protect yourself against the threat of business failure.
Entering a Dead-End Market
Not all markets are created equal. Rather, there are some industries that simply won’t net you a profit regardless of how well-run it is. Due to prohibitively high operating costs or structural barriers to entry (such as a highly government-regulated or taxed market), some industries will never generate sustainable profits.
Therefore, it’s important that you pick an industry that can reliably generate profits in the long-term. Some of the least profitable industries in the US include mining, beverage manufacturing, and oil and gas extraction.
An Inability to Read the Market
One of the top reasons for business failure is a general disregard for a business’s customers and their shopping habits. To succeed in entrepreneurship requires a little bit of consumer psychology. In other words, you need to be able to put yourself in your customer’s shoes and understand what’s driving them to purchase your product or service.
Look critically at who is shopping at your store: are they repeat customers or one-time shoppers? If they’re the former, you might need to introduce a loyalty rewards program to keep them coming back or come up with even more creative ways to drive retention.
We’re often asked: what is the primary reason that so many businesses fail? Usually, our default answer is simple: overgeneralization. Economists have known for centuries that to compete in a market, you need to specialize.
If you primarily sell one category of product or service, zero-in on it and devote extra resources to cutting the costs of producing it while maintaining quality. The key is to not spread you or your business too thin.
New entrepreneurs shouldn’t be discouraged from throwing their hat in the ring. However, a lack of managerial experience can lead to a world of problems for starry-eyed newcomers to the business world. Unfortunately, far too many new small business owners fail to embody the character traits and leadership skills necessary for success in a competitive market.
Keeping a business afloat demands more than just focusing on the bottom line. Business owners also must learn how to retain top talent, delegate authority responsibly, and plan inventory, among countless other day-to-day tasks.
Far too many businesses fail before they even get off the ground because they neglect proper accounting practices. If your small business doesn’t have the capacity to hire a dedicated professional accountant yet, then you should trust accredited accounting software like Intuit QuickBooks to help streamline these tasks.
Not Creating Checks and Balances
Businesses are organized in hierarchies to maximize efficiency and keep operations running smoothly with multiple team members. However, things can get out of hand if the roles and responsibilities of each member aren’t clearly expressed.
To prevent confusion, conflict, and the potential for disruption in your company, ensure that all team members have their responsibilities in writing when they’re hired or promoted. Without a clear vertical delegation of labor across the hierarchy, conflict is bound to arise.
Unreliable Customer Service
As an entrepreneur, you understand that the customer is king. However, nothing disrespects a customer’s business than to provide them with subpar customer service if they bring forward a concern or ask for a refund.
Whether you run a storefront or eCommerce store, invest time in training your staff and preparing written protocols for instructing them on how to deal with customer complaints. Although difficult customers are inevitable from time to time, appropriate communication skills should be leveraged to diffuse the situation—not aggravate it.
Building the Wrong Team
If there was a single answer to the question “why do small businesses fail,” it would be hiring the wrong people. As a business owner, your staff and partners are the lifeblood of your company. Without them, the whole organization can collapse. Therefore, hiring is important to ensure that the correct foundation is laid for your business.
To keep your business from getting burned by an unreliable or problematic employee, make sure that every candidate you hire shares your vision for the business and its long-term plan.
Choosing a Bad Location
Brick and mortar storefronts need to be strategic about where they locate their business. If your business isn’t in a location that’s accessible to your clients, is sparsely populated, isolated, or potentially even dangerous, you need to relocate before you bleed any more cash. Here are some of the top questions to ask yourself when choosing a location for your business:
- Is there ample parking for your clients?
- Are you visible from street-level?
- Is there through traffic?
- Are you surrounded by competition?
- Are you located near public transit?
- Is your target demographic living in the area?
Recipes for Restaurant Failure
It’s no surprise that many business failures occur in the restaurant industry. Unfortunately, restaurants simply can’t turn a profit after covering for operating expenses and staffing. However, a top reason why businesses fail in the restaurant and food services industries is the failure to lead by example.
Many restauranteurs shy away from customer-facing responsibilities within the restaurant and often delegate these responsibilities to a kitchen manager. In the worst of cases, restaurateurs never even show up at the store to check in with the staff. This is a recipe for failure.
To prevent the common failings that plague the restaurant industry, master the restaurant leadership skills necessary to make it in this highly competitive sector.
Making Legal Mistakes as an Entrepreneur
Understanding why businesses fail is as much a legal question as it is a business question. Many young entrepreneurs ask us: what is the primary reason that many new businesses fail early on? More often than you might think, it is due to mishaps with the law. Some of the most prevalent legal issues that cause the downfall of small businesses are:
- Not paying state and federal taxes
- Failure to organize as a business entity (LLC, LLP, etc.)
- Failure to draw binding contracts
- Failure to protect intellectual property
- Failure to consult the services of an attorney
To keep your business operating as it should, keep yourself out of legal trouble by regularly consulting the counsel of a licensed attorney that specializes in commercial law. Not only can they help you remain compliant with government regulations, but they can help draft and notarize your contracts and agreements too.
Avoiding Business Failure
If you think your profitable business is immune to failure, think again. The truth is that all businesses are subject to the possibility of failure if they get overzealous or fail to practice good workplace leadership skills.
After all, you are the key ingredient to the success of your business. Despite your best efforts, your business can take a turn for the worst and be forced to dissolve or liquidate its assets if it isn’t properly managed. Luckily, a constant willingness to learn and develop your managerial skills if the best antidote there is to failure.
Despite there being many reasons for business failure, you can safeguard your business from shuttering by exercising due diligence and following basic precautions. By taking note of the common culprits listed above, you can ensure the smooth operation of your business for years to come.