The Fail exposé

Everyone likes to celebrate business success, but when it comes to business failure often the subject gets swept under the carpet. Yet failure offers up some of the biggest business lessons of all. We examine why businesses fail and how to deal with the associated stigma.

We often hear the expression “fail your way to success” around business circles, which sounds rather glib and idealistic, but we rarely discuss the subject of failure in any detail to better understand why businesses fail, what steps entrepreneurs can take to avoid failure, and what lessons we can learn from the overall experience.

We’ve decided it’s time to bring business failure out into the open – but first a few stats.

According to MBIE, 58 percent of Kiwi businesses born in 2010, with no employees, ceased to exist by 2015. With up to five employees the figure was slightly better at 43 percent.

It’s a fact that a large percentage of start-ups fail to move beyond start-up phase. Statistics NZ say only 37 percent of ‘micro’ businesses, or start-ups, exist after two years.

Bob Weir, who runs Pinpoint Business, a Waikato-based business consultancy, knows the statistics all too well. He’s about to release his book Why Businesses Fail, after spending three years researching New Zealand’s business market, including more than 1000 liquidations – some of which happened very quickly.

Weir says the generally available statistics reveal 2000 businesses are liquidated every year in this country. “Around 45,000 [businesses] start in New Zealand yearly but about the same disappear. So while the number of businesses that officially fall into liquidation is relatively small relative to start-ups, most simply give up and disappear for reasons only the owners will know.”

Weir believes there is no simple answer as to why businesses fail – that’s why his book covers it in some detail. However, he told NZBusiness that the only common factor in every failure is that “human beings made decisions that proved fatal”.  

It’s perhaps self-explanatory, he says, but when looking at failures we forget businesses are run by irrational human beings (all of us). “If not kept in check our decisions can be very flawed. “Therefore understanding how we think and decide is fundamental to understanding why we fail or succeed in business.”

The problem, says Weir, is that we’re all emotionally attached to our businesses and the decisions we make. That will never change, he says, because humans are “emotional animals”.

“When we make decisions we want them to work. When they look like going south we hang on as long as we can, hoping we are proven correct.

“Even after a business fails most of us remain in denial.”

“Failure is the condiment that gives success its flavour.” – Truman Capate.

Of course, nobody ever said being a business owner is easy. As Craig Garner, chief executive of Business Mentors New Zealand points out, it requires long hours, risk, and doing things you don’t like doing, “while constantly on a learning curve that extends well beyond your perceived comfort zone”.

Growth brings new challenges, adds Garner, such as the move from independence to interdependence – to a manager and empowering employees. “This is a paradox in which businesses often fail due to being too successful. They grow too fast, can’t keep up with client demand or simply lose sight of their original defining values and mission.”

The domino effect of business failure has been well reported in the construction industry, Garner says, where large developers leave small independent tradespeople out of pocket due to unpaid bills (see sidebox). Not only is the business owner’s current financial and emotional stability impacted, and their close personal and professional relationships, but also their potential to be a future positive economic contributor.

It’s personal

It may not come as any surprise that business owners regard business failure as personal failure. Smita Singh, senior lecturer in international business, strategy and entrepreneurship at AUT, says this is proven by research, where the identity of an entrepreneur can get closely intertwined with his/her business. And if there is a deep-seated socio-cultural bias against failure, then there’s a tendency to think of business failure as a personal one.

“If a business fails, then it doesn’t mean that an entrepreneur fails. Failure doesn’t mean that an entrepreneur cannot be involved in business again,” says Singh.

However, the stigma of failure makes it hard to accept business failure and move on, she explains. “Acceptance is also hard because of a bruised ego and attachment to the idea of being perceived as successful by others. When a venture fails, the feeling of personal failure can seep into other aspects of life.”

The entrepreneur with a failed business may not only start feeling like a failed entrepreneur, but also a failed friend, failed life partner, parent and so on, explains Singh.

“There’s also fear associated with accepting failure and seeking support. In SMEs, social support is a crucial resource. Building this resource and achieving legitimacy for new ventures is important.”

“Losers quit when they fail – winners fail until they succeed.” – Robert Kiyosaki. 

Bob Weir agrees that business is very personal, and it’s difficult to separate business from your emotions. “Nobody knows it all and we must seek help, especially in areas where we have gaps.” Arrogance and hubris kill businesses, he explains, “so be confident but be humble”.  

“When faced with significant decisions where uncertainty is high, especially taking on debt, always ask ‘what if?’; ‘what if I am wrong?’; ‘what if the future isn’t what we predict?’.

“If the business can’t survive the ‘what ifs’ tread very carefully.”

Weir says he has little time for those who say you must fail in business to be successful. “Yes, we will and must make mistakes. But if those mistakes kill a business then it is too high a price to pay.”

He wrote Why Businesses Fail because “sometimes we must learn from the failures of others and the pain they’ve suffered to be successful”.  

“What my journey demonstrated to me, and I explain this in the book, is that failures are part of being human. Understanding why they happen requires us all to devote time to learning more about how our minds work – how we think, how we decide and why we often get things very wrong.”

Early intervention

Poor cashflow is often a catalyst for business closures – but it is possible to halt the downward slide through early intervention and engaging a fresh set of eyes to identify issues, risks and opportunities that the owner will not see.

Tony Maginness, director at Staples Rodway, offers the following options for turning things around, depending on the circumstances:

• Improving financial management (e.g. by moving premises to reduce lease costs; producing accurate management accounts; analysing the profitability of existing and potential projects);
• Marketing (e.g. business owners occasionally wait for the work to come in and fail to advertise their services and products to existing and potential customers);
• Introducing necessary skills and experience into the business through a new employee or consultant (e.g. the owner of a construction company may lack skills to allow for the accurate pricing of potential projects);
• Debt restructuring (e.g. refinancing to obtain additional working capital, or creditor compromises to reduce excessive debt);
• Introducing additional capital (e.g. through a new shareholder);
• Selling business assets;
• Liquidation, to avoid further creditor and business owner losses (the business owner could obtain a better financial return through alternative employment).

“If it becomes clear that the business needs to be placed into liquidation, we recommend that the business owner use an accredited insolvency practitioner who can be trusted to do the right thing,” says Maginness.

“Will the insolvency practitioner assist with getting the best possible value for the business assets and pay a distribution that will reduce the financial exposure of creditors and ultimately the business owner?  Or will they treat everyone, including creditors, with distrust, and simply be there for their fees? 

“An owner of a failed business needs to remember that according to statistics, most businesses fail, and be willing to learn from his/her mistakes and move on.” 

A full recovery

Thankfully, successful turnarounds do happen.

Jessica Kellow, a business recovery and insolvency partner at BDO Wellington, cites a retail client impacted by online competition, who was struggling with cashflow despite having excellent brand awareness.

“The company was no longer able to pay creditors in accordance with the agreed terms and the director was mindful of the downward spiral that was possible without early intervention.

“Upon review it was determined that the wage costs were too high relative to turnover. The store configuration with an upstairs and downstairs meant there was an increased requirement for staff. A desire to pay staff more than competitors was also impacting the bottom line,” says Kellow. “Whilst there were costs associated with relocating the store, the company was able to agree a three month rent-free period with the landlord which offset these costs.”

An associated underperforming store was closed. Excess stock was returned for credits and wage costs reduced. Improvements were also made to the online store to maximise revenue.

“The company is working on reducing the outstanding creditors using the increased available cashflow, says Kellow. “What was a struggling business with a director who had lost motivation is now on the road to recovery as a consequence of knowing the early warning signs and seeking expert advice.”

Her advice for business owners is to know your strengths and what you’ll need help with – such as managing cashflow, paying wages or completing GST and PAYE returns.

“Set aside tax into a separate tax account and don’t use it for anything other than tax,” she advises. “It might sound simple, but know your debtors and creditors. Who do you owe and who owes you?

Kellow says stress and conflict that arises during a business failure can test the strongest of family or personal relationships, and places significant strain on the health of affected parties. “We often suggest that directors seek employment on PAYE terms in order to concentrate on getting their lives back in order without additional stress. Ironically, often the directors have been working without fair pay during the demise of the company and it can be refreshing to actually get paid to turn up to work.”

Why mentoring’s important

Many businesses would never have got off the ground, had the entrepreneurial individual known of the challenges and toil that lay ahead. This is why a mentoring relationship is so important, says BMNZ’s Craig Garner.

“You have to do the work yourself but the ‘sounding board’ from an experienced person can make all the difference between success and failure; between trying a new approach or just giving up and retreating back to the comfort of working for someone else.”

“Only by seeking advice and support from those who are less emotionally, and financially, involved in your business can you challenge your thinking and direction. The age-old ‘working on the business rather than in the business’ stands the test of time. By missing the signs you are at risk of making costly strategic mistakes.”

Garner’s advice for keeping your business off the casualty list revolves around two attributes: the ability to plan and resilience.

“What your plan should determine is what is going to make your business stand out from others. Remember if you aren’t supplying a brand new product to the marketplace then you’re going to have to take market share from someone else who’ll be doing their best to achieve the same goals. This is the very nature of market demand and competitive behaviour.

“Your plan will determine your goals, keeping you focused and helping you measure whether you’re succeeding against your potentially overly-optimistic expectations. Planning will also ensure things like cashflow, tax and profit margins are maintained and accounted for.

As for resilience, Garner says there will be uninformed people every step of the way telling you why you can’t do it.

“If you’re not prepared to work long hours, suffer regular knockbacks, and have to deal with disappointment from others and your own personal expectations, then don’t do it.”

Work on your mindset

To succeed in business, and avoid failure, it helps to have a disciplined, growth mindset, says AUT’s Smita Singh. “One that believes in taking calculated risks, experimentation and learning from failure and mistakes, but not perfection.

“One cannot always avoid failure,” says Singh. “Business failure doesn’t always happen because of a flawed strategy or lack of preparation, mismanagement or lack of competency. There are many external factors too that can sometimes be beyond one’s control.

“So, it may help to adopt a mindset that failure is not the final end. Rather it is part and parcel of a business journey and can happen at any time and in any business. 

“To have an open mind to the possibility of failure, cultivate a proactive approach to build personal resilience to deal with its negative consequences and take steps towards making the business resilient.”

Awareness of default patterns of thinking, behaviour and attitudes towards failure is a good starting point, adds Singh. “Many entrepreneurs learnt that certain coping behaviours and actions only made things worse in dealing with business failure. For example, lying, making up stories, being secretive, shunning support, relying on alcohol etc. to deal with the stress and keep the image of a successful entrepreneur intact.”

Overall, the approach that failure can be the story of any business means that one is not unrealistically optimistic and more prepared to deal with minimizing its negative consequences and learning from it, explains Singh. “There are several entrepreneurs in my research who used their experiences of failure to start up new businesses, design new products and services and help aspiring entrepreneurs.

“The question is how open are we to critique and [can we] possibly even redefine our notion of business failure?

“[Can we] discuss the positive and negative outcomes of business failure rather than look for a more palatable term in the dictionary for the word ‘failure’ or try and avoid the conversation altogether on this subject?”

More warning signs

When it comes to warning signs that things are about to go pear-shaped in a business, Jessica Kellow at BDO Wellington says often compliance and cashflow management are contributing factors. Her early warning signals include:

• Missing PAYE or GST payments to Inland Revenue.
• Extending overdraft facilities or constantly operating at or above the overdraft limit.
• Creditor payments being stretched to 60-90 days.
• Being “out of stock” of a popular stock item.

Staples Rodway have produced a very good article on the common indicators of potential business failure, which can be found here: https://staplesrodway.co.nz/news/seven-indicators-of-future-business-failure/

Constructing a turnaround
Many businesses in New Zealand’s construction sector operate on thin profit margins and inadequate working capital. Trading on a ‘pay when paid’ basis, any dispute over a debt or the failure of a customer, can create material cashflow problems and potential business failure.

Tony Maginness, director at Staples Rodway, says his firm has assisted businesses in such situations.

“This has included, for example, businesses entering into creditor compromises, which involved the payment of a discounted amount to its creditors over time, and the refinancing of businesses so that they can obtain access to additional working capital.”

Any turnaround of a business relies upon it being able to produce accurate financial information, and adequately price products and services so that they generate a profit, says Maginness. 

“The business also needs to make sure that when it enters into contracts, that they are in the financial best interests of the business. We therefore always say that any business needs a good accountant and lawyer.”

Article by Glenn Baker, editor of NZBusiness. First published in the September 2018 issue of NZBusiness.