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How an SME can avoid common business pitfalls

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There are many reasons why businesses fail, but often these problems can be solved if management are alert, seek help and act quickly. The following three areas often come up:  

Strategic drift

This is the most common reason a business underperforms. It occurs when a business fails to adapt to changes in its industry, or to customers’ evolving needs. 

An obvious example is Blockbuster Video, which failed to keep up with technological changes and consumer habits. The majority of its customers had moved onto mail order DVDs and video streaming while the business was still operating bricks-and-mortar rental stores.  



Businesses often suffer strategic drift when they focus on how they have been, rather than how they should be doing things.

The solution is to re-evaluate the core strategy of the business; where the business is and where it needs to go. Management are often aware of changes that need to be made, but culture and resources can be barriers.

Continually adapting and improving is an essential part of running a business. It’s important to review where the business is, what it needs to do next, and how it can be done on an ongoing basis. If the required changes are large or complex, or there is uncertainty, it may be useful to seek professional assistance.

Overtrading

Overtrading occurs when a business grows faster than it can sustain with its current finance. In practical terms, this typically means sale orders and purchases increasing, but the business runs out of cash to pay its suppliers before the increased sales can be converted to cash. In a worst-case scenario, this can force a profitable business to cease trading.  

Overtrading can be difficult to spot early on because the symptoms – an increase in sales and profitability – are positive. Later signs such as monthly additional borrowing or dependency on specific customer payment to make it through the month are typical cash flow problems.



Here, it’s vital to spot it early by planning your finance needs. Maintaining a rolling cash flow that forecasts your cash requirement for all outgoings, based on improved sales figures and expected timings, will help identify additional cash requirements before they occur.  

Knowing your cash requirement early can allow you time to speak with your finance provider and suppliers, or to seek additional finance. If you are not able to meet additional orders you can consider other options, such as sub-contracting work or focusing on the most profitable projects.

Insufficient working capital

The ultimate reason for a business failing, whatever the underlying problem, is almost always down to it running out of cash; whether due to losses, overtrading or loss of a major client. 

When cash becomes an issue you will often find yourself fire-fighting. If the matter is not addressed promptly and managed effectively, the situation will escalate and often result in business failure. 

When faced with a working capital problem, you must understand why. Has turnover suffered? Is the business profitable? Is further finance required? Take a step back, identify where the principal problems lie and put a resolution plan in place. At the same time, manage your cash so payments can continue to be made while the underlying problem is addressed.  

A cash flow forecast, ideally with a profit-and-loss forecast, detailing each cash inflow and outflow is essential to manage the position. Review each payment, establishing which are essential, which may be delayed and where cost could be cut altogether without adverse effects.

 

John Buchanan is performance senior manager at chartered accountants HW Fisher & Company
www.hwfisher.co.uk/