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When I started my small business, I worked closely with a client whose business seemed to be doing extremely well. Despite its initial success, my client's business began to struggle several years later and ultimately failed.
While I was not personally involved with the management of the company and, therefore, was not privy to its financial statements, I learned some lessons from the causes of this business failure, lessons that I believe can be applied to many other small businesses. They include the dangers of too-rapid expansion, which distracts management's attention from a healthy core business and sucks up cash.
My client's firm appeared to me to have a sustainable and potentially very profitable business model providing a service to small companies on a subscription basis. The service it marketed was, for the most part, provided by outside contractors.
Because this was a subscription business, it generated strong, up-front cash flow, and because the service was produced by outside contractors, its overhead was low. Given this combination of strong cash flow and low overhead, this business model seemed to have the potential to be very profitable.
However, management also viewed it as a model that could be leveraged by offering clients additional non-subscription services. While this expansion created the potential for higher revenue, it also resulted in far higher overhead. In addition, the new businesses needed time to gain traction before they would begin to contribute to the top and bottom lines. As a result, they initially required more cash than the core business was able to generate.
Further, the focus on new businesses distracted management from the blocking and tackling necessary to keep the core business healthy. With any subscription business, renewals are critical, and renewals depend on strong customer service. A distracted management seemed to lose focus on this important strategy, and, as a result, renewals (and cash flow) suffered. This was disastrous when the financial meltdown hit and capital availability dried up.
I believe that there are three very important lessons for small businesses from this business failure.
First, if you have a solid core business, perhaps one that is a bit boring, but dependable, nurture it. Yes, new opportunities may look more exciting and potentially more profitable, but, in pursuing them, don't lose sight of the business that is paying the bills. Continue to make its success a priority.
Second, don't let new business opportunities or the search for new customers distract you from providing the best possible service to existing, cash-generating customers.
Third, don't outrun your capital. When money is easily available, it often seems like it will always be easy to come by. Don't count on it. In good times, conserve cash, strengthen your business's financial position and don't allow it to become over-extended financially, because if a downturn occurs, small businesses may be the first to be cut off from financing.