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Five key reasons why start-ups fail

Tuesday, 20 November 2012 | By Oliver Milman

feature-dead-end-thumbIn a lively speech delivered last week, former opposition leader Malcolm Turnbull covered everything from hard hats and fluoro vests to the embracing of “creative destruction” in his critique of Australia’s start-up scene.

 

His spiel also included the following lament: “We all know that most start-ups don’t make it. Roughly a third close by their second year. Only half make it to age five.”

 

The silver-haired japester then added: “I have invested in start-ups where I’ve lost the entire investment in less than 180 days, which I regard as being extremely discourteous.”

 

“I think you’ve got to have some manners and I think if you’re going to lose your investor’s capital you really shouldn’t lose all of it in less than 12 months. There’s got to be some dignity.”

So do Malcolm’s figures add up? We put the Turnbull statement through the StartupSmart fact checker and found that it’s broadly true.

 

According to the Australian Bureau of Statistics, of the 316,850 businesses that were launched during 2007-08, 71.5% were still operating in June 2009, with just 48.6% still going by June last year.

 

The ABS itself states: “As such, the survival rates for new businesses are significantly lower than for those businesses that were already established. This indicates that business survival is related to the age of the business, i.e. the longer a business survives, the greater its chances of continued survival.”

 

So what are the main reasons for start-up failure that Turnbull alludes to? We’ve picked out five key things that derail new businesses. Make sure you avoid each of them.

 

 

1. Giving up

 

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So you’ve had a great brainwave for a business. Full of enthusiasm, you launch your venture, convinced the world will be bowled over by your genius.

 

And then you have to deal with the nuts and bolts. The bills. The process of getting your product or service up and running. Disappointed customers. Unexpected costs. It becomes like wading through treacle.

 

Unless you have a clear vision of why you started up and a cast-iron certainty that your concept can be transformed into a viable business, there’s a chance you might just give up, as many entrepreneurs do.

 

“Having a clear reason why you’re going into business is important both to you and your customers,” says Marc Peksett, director of business advisory firm MPR Group.

 

“Your reason why should start with a problem or a need that is currently unmet. It typically stems from having a strong understanding of the market and knowing how you can use your skills to solve a problem for your customers.”

 

“This becomes your value proposition, which distinguishes you from your competitors and provides your customers with a compelling reason to buy your products.”

 

“What keeps your customers coming back is the passion and belief you have in what you deliver and the way that permeates your business. This includes your relationships with staff, suppliers and customers.”

 

“Your reason why should spark this passion, give you courage and help sustain you through the tough times. Your reason why must feed your belief in what you’re doing on a day-to-day basis and help you carry on every time a potential customer says ”no” or a deal doesn’t turn out the way you planned.”

 

“Remembering your reason why will help you to quickly recover from set-backs, and allow you to carry on.”

 

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2. Unrealistic expectations

 

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If you’re smart, you will have tested out your offering with as many people as possible in order to gauge its potential, as well as to iron out any problems.

 

If there’s a strong take-up among early adopters, it’s tempting to indulge in hockey stick-like projections about your revenue. If they like it, others will, right?

 

Unfortunately, many businesses fail because they’ve failed to properly assess demand. Great ideas, unfortunately, don’t make great businesses.

 

Is there a genuine consumer need for what you’re doing? What gap in the market do you fill? And, critically, how will you be able to scale your business beyond the initial early adopters?

 

Without proper answers to these key questions, your sunny expectations are based on very little.

 

“I’ve seen many examples of businesses that were pushing a product or service that was simply too limited in its application or delivery,” says Peskett. “The result was that there were too few buyers, leading to insufficient revenue to sustain the business.”

 

“It’s far better to identify and challenge any assumptions you have about your business idea and then test those assumptions with a selection of paying customers.”

 

“Get feedback about your product or service, pricing, frequency of purchase, distribution, expectations and post-purchase experience. Then capitalise on these insights by taking a full-scale, fully-funded strategy to the market.”

 

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3. Not getting the right help

 

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Being your own boss provides you with oodles of freedom, but it also removes the crucial oversight you had as an employee.

 

Who is holding you to account if you make a bad decision? Is there anyone you are turning to for sage advice? Do you really have the skillset to do everything yourself?

 

Peskett says: “Start-up owners often try to be a jack of all trades, covering as many bases and roles as possible while they get their business off the ground. At some point in time, as their business grows, they find they become too stretched to do it all.”

 

“They’re forced to assess their personal skills and interests to decide what effective role they should play in the business going forward, while outsourcing the rest.”

 

“To avoid this trap, you should identify your skills and interests at the outset and employ the support of mentors and advisors. By doing so, you access expertise, form winning strategies and implement the best processes at the outset.”

 

A mentor could be a friend, family member or associate. Ideally, they’ll have a background in entrepreneurship and, better still, a knowledge of your particular industry. Use as many outside opinions as possible.

 

Serial entrepreneur Phil Weinman, who has mentored countless start-ups, says: “You may ask why someone would want to mentor you without payment?”

 

“Well, believe it or not, many highly successful people, who are not driven by getting paid for work they do because they don’t need to, are happy to pass on their knowledge and their affiliation with you, and maybe your business may even complement their own credentials.”

 

“Or believe it or not, they may just really like you. You may want to offer them some equity in your business – this is largely different from paying a fee or salary.”

 

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4. Running out of cash

 

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Two separate pieces of research, by Regus and PushStart respectively, released this month show that money worries are top of mind for start-ups.

 

Cashflow and funding were cited as the top concerns in each study, underlining the critical importance of cash to your business.

 

It doesn’t take much for a start-up to suffer cashflow crunch. For example, failing to chase up your invoices in a timely, efficient manner can cause huge problems.

 

MPR’s Peskett says that cash is the “oxygen your business needs to start, grow and then flourish.”

 

“It is important, therefore, that you fully understand your cash needs and have a comprehensive funding strategy in place,” he says.

 

“Your funding strategy should answer three key questions. Application: How much cash is needed and what will it be spent on? Timing: When is the cash needed? Source: Where will the cash come from?”

 

“Aside from your savings, or those of your friends and family, cash is available to you from three other sources: bank lending, equity investors, or one or more of the 600+ grants available to businesses in Australia.”

 

“For most start-ups, cash is often hard to get. Therefore, it is important that you minimise cash burn during your start-up phase by ‘bootstrapping’ and employing lean start-up methodologies.”

 

Worried that you may be heading for a cash-related disaster? Here are 11 handy early warning signs that your start-up is in trouble.

 

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5. Growth blunders

 

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The official stats show that the older and larger your business is, the less likely it is to fail.

 

But this disguises the fact that growth is a hurdle that many start-ups fail to survive. Expand too soon with the wrong strategy and there’s a good chance you’ll be looking at the job ads before too long.

 

Greg Hayes, of business advisory firm Hayes Knight, says: “Older doesn’t mean safer – you only have to look at some of the business that have failed in the current year to know this.”

 

“Your overheads and the amount of funds you need to maintain the business is higher. Too many bad business decisions can put you in an unrecoverable situation.”

 

“Moving from infancy to maturity normally brings with it some growing pain.”

 

“You may find that growth is placing pressure on cash and your infrastructure is not adequate to manage increased size.”

 

“Maturing the business does not happen automatically. It needs to be planned. Forward planning will become more important.”

 

“In infancy the focus is often on the short term and survival. As the business matures, medium to longer term planning becomes far more important.”