While there may be many contributing factors, there is only one reason businesses fail. Here’s what you can do to prevent your business from closing its doors.
I can remember the first time I heard that 96% of businesses fail in ten years. I was shocked and upset. How can this be? Most people are smart and if they have taken the risk to go out on their own and start their own company, they are willing to take calculated risks. Small businesses are part of the American Dream — it’s how entrepreneurs control their own destiny and make the world a better place.
But what’s happening if only 4 out of 100 businesses survive past the 10 year mark? If your company is a decade or more old, then congratulations, you’re one of the 4%! If your business is less than 10 years old, then I would like to share one of the most important lessons I learned from Keith Cunningham (otherwise known as “Rich Dad” from Robert Kiyosaki’s book “Rich Dad, Poor Dad”) at the Tony Robbins Business Mastery event. It could be the defining difference between going out of business or accomplishing the very goals you set out to achieve.
Profit is a Theory. Cash is a Fact.
Why do most businesses fail? Because they can’t pay their bills. Most entrepreneurs either are (or start out as) financially illiterate. Unless you are into financial services or accounting, most entrepreneurs don’t go into business because they love numbers. Most entrepreneurs saw an opportunity to make the world better in some way and built a company around that idea. So what do they do? They hire accountants and controllers to manage their books.
The way Profit & Loss and Income Statements are constructed, most CEOs are trained to focus on the profits or EBITA of their businesses. After all, it’s what you are taxed on and how your business is evaluated. But profits are simply a snapshot in time. They are a theory because a number of factors determine if you can actually pull the cash out of the business.
This is where the “Cash is a Fact” comes into play. Why do most businesses fail? Because they can’t pay their bills. When you run out of cash, it’s game over. None of your vendors / creditors care in the least how much profit you’re showing on your books if you can’t pay your bills. Companies don’t go out of business because they lack profits on their financial documents, they go out of business because they don’t manage their cash and can’t pay their bills.
You Are Financing Your Clients (And Your Vendors)
Ever notice why massive companies tend not to pay faster than 45 to as much as 120 days? They are using their size and position in the industry to set their cash management terms. Unfortunately for many small and medium sized businesses, entrepreneurs end up financing their clients who are ten times their size.
The problem gets worse because in order to attract the vendors you need to deliver your product and you usually end up paying fast (as in less than 30 days). It makes logical sense as your ability to pay quickly puts your requests at the top of most of the vendors you have engaged. The problem comes when you get squeezed between attempting to be a good corporate citizen to your vendors, and being raked over the coals by your slow paying clients.
Controlling Your Cash Can Also Help Increase Your Profits!
If you’re not tightly managing your cash, then you will eventually be blindsided one day. Conversely, tighter cash controls will actually improve your profits. How? By having higher visibility around your expenses when you are focused on managing your cash. For example, did you know that by cutting your expenses by 10% you can increase your bottom line profit by as much as 50%? This is because as businesses grow, most entrepreneurs are focused on the big picture such as top-line revenue growth and their expenses begin to grow. Many of these expenses can easily be cut as they are not critical to servicing your clients or growing your business.
If you want to cut your expenses by as much as 10% in the next 90 days, sign every check. This is how most entrepreneurs started in the first place. Once you hire your financial support team, you stop being so diligent about the expenses of the business. Consider this a “check up.” You don’t have to do it all the time, just pick a quarter in which you see every penny moving through your company. Right away, you’ll see expenses that are either too high or simply not needed in your business. Cutting these costs will drop money to your bottom line and increase the amount of cash you can keep.
Taking Control of Your Business and Financial Future
If you’re tracking with me thus far, you are probably asking yourself how else you can you ensure your long-term financial health. In Keith Cunningham’s view, the number one problem CEO’s have is that they are not clear on what they are looking at when they read the financial documents that are prepared for them (usually by their accountant or CFO). After many years consulting on this problem, Keith created a tool called The CFO Scoreboard. The premise being that if you have a better idea of what you should be looking at, you are likely to manage the most important areas of your business.
I have been using this tool for the last couple of months and I highly recommend it. At its most basic level, it’s a financial dashboard that pulls important information from your financial documents and illustrates key issues in simple graphs and color coded positive (green) and negative (red) impacts on your business. The tools automates the red flags that show up when your financial data seems out of whack. In essence, it gives you a very clear picture of what’s working and not working in your business financially.
That alone would be worth it, but what you’ll really appreciate is the “What If” tab that allows you to project out and see in real-time what small 1 to 3% changes in your operations will do for your bottom line. Without seeing these impacts illustrated, it’s really difficult to internalize just how much of an impact a 3% change in your costs of goods sold has on your bottom line. By playing with the built-in financial models, you quickly discover just where you need to focus in order to take control of your business and financial future. I highly recommend setting up a demo of The CFO Scoreboard and seeing it for yourself. You’ll never look at your financial statements the same way again.
