1.15 Flashcards
Reasons for business failure
Business failure
● The precise rate of business failure across the world is difficult to identify.
However, the failure rate is high.
● Businesses fail for a variety of reasons, amongst them:
○ Cash flow problems
○ Lack of finance
○ Not being competitive
○ Failure to innovate
Cash flow problems
● Overtrading
● Investing too much in fixed assets
● Allowing too much credit
● Over-borrowing
● Seasonal factors
● Unexpected expenditure
● External factors
● Poor financial management
Overtrading
● Young and rapidly growing businesses are at risk of overtrading, when
they attempt to fund a large volume of production with insufficient cash.
● Cash runs out while it is spending money on resources to meet a rising
number of orders.
Investing too much in fixed assets
● Spending large amounts of money initially on equipment, vehicles, real
estate can quickly use up resources.
Allowing too much credit
● When a business allows credit, goods are sold and the customer pays for
them at a later date.
● Is businesses are waiting for money from allowing too much credit, they
may be forced to borrow during this period.
Over-borrowing
● Businesses may borrow money to finance their growth. As more loans are
taken out, interest costs rise.
● To avoid over-borrowing, a business may try to raise more money from
the owners, selling shares, etc.
Seasonal factors
● Careful management and predictions of changes are required for
seasonal companies whose trade is directly affected by the time of year.
Unexpected expenditure
● Businesses need to be prepared for any unforeseen spendings. Some
examples are equipment breakdowns, tax demands, strikes, etc.
● Careful planning is required.
External factors
● External factors such as changes in consumer taste, changes in legislation
or a downturn in the economy can cause cash flow problems.
Poor financial management
● Inexperience in managing cash or a poor understanding of the way cash
flows into and out of a business may lead to cash flow problems.
Lack of finance
● Both new and established businesses may fail if they do not attract
funding.
● New businesses may struggle to attract funding because they do not have
a trading history - this presents a risk for investors.
● Established businesses may fail to get funding if their track record is poor
- this presents a risk for investors.
Not competitive
● New entrants
● Ineffective cost control
● Ineffective marketing
● Lack of business skills
● Poor leadership
New entrants
● A business may fail if a new rival enters the market and takes over their
trade.
● New competitors might:
○ Bring out superior products
○ Read the market more effectively
○ Charge lower prices (if their costs are lower)
○ Use “destroyer pricing”
Ineffective cost control
● If costs are too high, businesses need to charge more. This might result in
a loss of trade to low-cost competitors.
● A firm’s cost might be higher than rivals for a number of reasons:
○ Size too small to exploit economies of scale
○ Wasteful businesses (high or unnecessary spending)
○ Pay too much for resources that could be cheaper, without compromising quality
○ High labour costs that could be relocated
○ External factors such as exchange rate changes, cost of raw materials, etc
Ineffective marketing
● Businesses might struggle to compete if marketing is weak, for example:
○ Launching a new product that fails to take off
○ Inappropriate pricing strategies
○ Invest too heavily in overpriced or inappropriate marketing campaigns
○ Inappropriate marketing strategy
