Prosper Newsletter: October 2007 > Financial

You understand that the following information is educational in nature and is not intended to be legal, accounting, or tax advice. You are responsible for your own financial decisions and should consult your own legal, accounting, and tax advisors before making your financial decisions.

Avoiding common (and costly) pitfalls that can kill your small business

The number of new small businesses has grown steadily over the years. In 2002, there were 570,000 new small businesses established. In 2006 that number grew to nearly 650,000 according to Belmont University—a testament that the entrepreneurial spirit in America is alive and well.

Many ambitious individuals, like you, may view business ownership as an opportunity to create supplementary income and achieve financial freedom and independence. After all, entrepreneurship represents the very essence of the American dream—taking control of your destiny and living the good life. Yet, novice entrepreneurs who start a business encounter hiccups along the way they never anticipated, resulting in eventual failure. In fact, according to the Small Business Administration, new small business owners have a 50/50 chance of failure. The SBA suggests the following mistakes often contribute to small business failure:

• Starting a business for the wrong reasons. People go into business for a variety of reasons—increased income potential, more time with family, freedom and independence. Yet, novice entrepreneurs often fail to realize the logistics involved with starting a business, such as taxes and paperwork, startup capital, the initial time investment and other related issues. The SBA suggests that individuals who want to start a business first begin with "passion and love for what you'll be doing, and be strong and believe—based on educated study and investigation—that your product and service would fulfill a real need in the market place."^[1]
• Poor Management. Numerous reports citing reasons for small business failures report that poor management is often named. New business owners frequently lack relevant business management expertise or financial management skills, and neglect to recruit partners and employees that possess the skills and talents they lack to suffice the discrepancy; thus creating an effective strategic management team. Additionally, poor management also encompasses the lack of due diligence; the failure to constantly nurture and grow the business. "A successful manager is also a good leader who creates a work climate that encourages productivity. He or she has a skill at hiring competent people, training them, and is able to delegate," says Patricia Schaefer of Attard Communications, Inc. "A good leader is also skilled at strategic thinking, able to make a vision a reality, and able to confront change, make transitions, and envision new possibilities for the future." She also states that regularly studying the market place and customer data is a must. "Neglect of a business can also be its downfall," she says.
• Insufficient Capital. A common fatal mistake new business owners make is underestimating their financial needs; hence they are forced to close before they have had a chance to make their business succeed. "It is imperative to ascertain how much money your business will require; not only the costs of starting, but the costs of staying in business," Schaefer says. "It is important to take into consideration that many businesses take at least a year or two to get going. This means you will need enough funds to cover all costs until sales can eventually pay for these costs." It is important to note, however, that entrepreneurs don't necessarily have to fund their new business entirely out-of-pocket. Ruth King, CEO of BusinessTVChannel.com and author of Dumb Mistakes that Kill Small Businesses^[2], suggests that individuals should consider angel investors, venture capitalists, small business loans, or seeking the assistance of local Small Business Development Centers for the required capital.
• Lack of Planning. It is critical for all businesses to have a business plan. Many small businesses fall victim to fundamental shortcomings without a strategic and realistic business plan. Business plans should include the following components: a summary description of the business (including both a mission and vision statement); a needs assessment (including a plan for resolving problems with plausible solutions); marketplace analysis (including consumer trends, competitor statistics, and economic figures); marketing and public relations tactics; operation structure and hierarchy; growth potential and expansion strategies. The Articles of Incorporation you file with the State when applying for a business license will often include this information as well; however, it should not be used in place of a working business plan. Your business plan should be a living document that is updated and revised as your business grows and changes. It is noteworthy to mention that most banks, angel investors, and other business funding resources require a business plan before they will consider a candidate for support. Therefore, a business plan is essential.
• No Website. Whether or not you are computer savvy, we live in a world that relies heavily the high-speed efficiency of Internet. Email, online banking, search engine optimization—these are just a few of the many modern conveniences the Internet affords. In fact, the U.S. Census Bureau reports that more than 70% of the U.S. population uses the Internet in some form, and eCommerce sales account for at least $100 billion in revenues. Schaefer states that every business should have a professional Website that "enables user to easily find out about their business and their products and services." She adds that a Website provides "additional ways to generate revenue [such as] selling advertising space [and] drop-shipping products. If you don't have a Website, you'll most likely be losing business [...] remember, you want to increase revenues."

That said, Ruth King, in her best-selling book Dumb Mistakes that Kill Small Business^[2], identifies several additional mistakes small business owners frequently make and how to avoid them:

• Relying too much on one customer. Small businesses, while in their infancy, generally start with a small group—one or two clients. Yet, when these clients provide all the work a new business owners can handle, their client list fails to expand. As such, King recommends that business owners should be constantly recruiting customers, even if their current client list provides sufficient business. "Avoid letting any customer make up more than 25% of your revenue," she says.
• Losing key employees and partners to competitors. It can be a crippling blow for a small business if one or two key members migrate to a rival. Therefore, it is important that you be persnickety about whom you go into business with. Often times, people will team up with best friends in establishing an organization only to find out, years down the road, they are no longer best friends and the organization suffers. You want to work with people you trust who possess skills that you may not have but are essential to effective business management, who are loyal and can help maintain a positive morale, and can be honest with you even when the truth may hurt. Yet, be careful choosing a partner who fits that description—you don't want to lose your best friend as well as your organization's top employee.
• Trusting a bookkeeper too much. Accountants are an asset to any organization, especially one who is certified in business tax codes and financial reporting; however, a business owner should never relinquish full control over the books to an accountant, give the accountant power of attorney to act on your behalf, or give an accountant check writing privileges. You, as the business owner, should maintain control over your company's bank accounts and financial reports; checking reports often and being an active participant in keeping accurate records of all money going in and out of the business.
• Turning a hobby into a business without knowing what's involved. Most businesses develop from an individual's passion. After all, if you aren't going to love what you'll be doing, then why start a business, right? While passion is a key ingredient for turning a profitable business, knowing what's involved. Personal liability, tax reporting schedules, licensing, accounting and financial record-keeping, local consumer market trends, competitor leverage, retail prices and other related costs, industry trends, shipping and international tariffs, online security—each of these are important considerations to take into account before officially incorporating your business.
• Having a relationship with just one bank. Most businesses rely on bank loans or lines of credit to help offset initial startup costs and protect themselves against potential cash-flow shortfalls. Yet, a business working with only one bank can actually hurt their credit, or perhaps dry up their credit if bank policies change.
• Working with unstable distributors and suppliers. It is generally wise to work with more than one distributor and/or supplier to avoid inventory depletion, shipping delays, and potential profits. For instance, if you publish a book and only one bookstore sells it, if that book store goes out of business your customers will not be able to purchase your book. Or, if your supplier goes out of business, you will need to find another supplier in order to fulfill customer orders. Moreover, it is important to watch for signs of financial trouble. If your supplier goes bankrupt, it could have a devastating effect on your product inventory. Ask your attorney to review contracts and agreements you have with any supplier or distributor to cover your bases and protect your business.

In essence, to ensure the longevity of your small business it is recommended that you conduct a thorough investigation of the logistics involved, even work with an attorney or an accountant to help you establish a business—properly and legally. It is also wise that you have measures in place to protect company profits, personal tax liability, and even your personal bank accounts in the event that unforeseen issues such as debilitating illness or disability, early retirement, buy-out, death of a partner, or even dissolution occur.

According to a study conducted by John Watson and Jim Everett in the late nineties, 64% of the 5,196 startups they surveyed failed in a 10-year period^[3] primarily due to the lack of proper preparation and financial management. Now that you know some of the common mistakes other entrepreneurs make, you can plan accordingly for long-term prosperity.

Another year is about to pass us by—already. Hopefully you have had success achieving many of your financial goals. As we get closer to the end of the year, there are a few things you will want to consider. Now is a great time to evaluate your current financial situation. Remember that everyone is different, and so is each person's financial condition. Here are a few things to think about:

Have you acquired any big-ticket items or property? Update your homeowner's insurance, wills, trusts, and other disposition documents accordingly. It is recommended that your Last Will and Testament be updated at least every two years.

Make adjustments to your investment portfolio. Now is a good time to rebalance your portfolio, especially if your investment goals have changed. The market could have altered your desired allocation, and/or you'd like to harvest any losses to offset gains. Remember that allocation of resources is far more important than chasing returns.

Contribute the maximum allowable contribution to your 401(k) or other qualified plan if you are completely out of debt. If not, contribute up to any matching contribution that may be offered and no more. This will be helpful to those of you who feel guilty about not saving enough.

Additionally, it is generally a good idea to update your list of beneficiaries, guardians, executors, or other designated agents. Make sure your insurance policies, retirement plans, annuities, wills and trusts reflect your current desires.

Aside of using extra resources to pay down debt, you can also lower your estate tax burden now by giving it away. (This should only apply to those whose estates are larger than the current Federal Exemption of $2,000,000.) You can make an $11,000 gift to anyone ($22,000 if your spouse joins in) annually.

Determine your distribution requirements. If you are 70 years old and subject to certain exceptions, you must take distributions from your IRAs or qualified plans each year, or face a stiff penalty. Even if you do not need the money, you can still take it out and invest it outside of your qualified retirement plans.

Use up frequent flier miles. If you can't travel, consider using those frequent flier miles for gifts or merchandise purchases for yourself. They won't be good forever, since many have expiration dates, just like old milk.

Organize your financial paperwork so your beneficiaries, executors and others who need to know can find them quickly. Make extra sure that if you are running a home based business that you check the accuracy and documentation for business expenses. Schedule a meeting with your financial coach to identify if any changes should be made to your financial plan. A lot can happen during the course of a year. Don't despair if you did not achieve everything you set out to accomplish financially. Write down what you were successful with. Relish your successes. Commit to do better this coming year.

---

Prosper welcomes your feedback. Do you have a suggestion for a topic you would like us to address in the next edition of the monthly newsletter, or an idea for a great elective class webinar? Send us an email at newsletter@prosperlearning.com

HOME | PARTNERS | PRODUCTS | TESTIMONIALS | SUCCESS CENTER | ABOUT US | CONTACT | SITE MAP | PRIVACY POLICY | CAREERS