Demystifying the high start- up high business failure paradox

If business failure is defined as liquidating all assets with investors or entrepreneurs losing almost all or all of their investment then business failure is estimated at between 30 and 40 per cent according to Shikar Ghosh a senior lecturer at Harvard Business School.  Uganda like other fellow East African nations is no exception to this business reality. Ranked as one (6th) of the most entrepreneurial countries globally by the Global Entrepreneurship Movement in 2010, the big challenge remains the more than commensurate business failure rate after periods of between 3-5 years from establishing the business.

One cannot downplay the importance of the copy and paste attitude. Numerous Ugandan business owners tend not to give their start-ups the required thought process and market research prior to establishing their business. Businesses are not tailored to adjusting clients’ needs and trends but largely remain a case of unedited, copying and pasting.

It is also common practice for business owners to disregard the agency- company relationship.  This is a typical case of not giving to Caesar what belongs to Caesar. Legally speaking the business and the owner are two different persons with the latter only an agent of the former. The owner should therefore act in the best interests of the business.  Failure by business owners to keep family and personal affairs from the business coffers means there is limited profitability and barely any reinvestment which are meant to drive growth. With growth driven by either market demand or reinvestment of some of the profits, without profits to reinvest, growth in the long run remains an unrealistic dream with declines and loss making an imminent reality.

Humble beginnings with solid foundations and natural growth are always better than big shaky ventures. This could be compared to a baby attempting running before they can crawl. All it spells is disaster. While the Chinese will start out in their backyard manufacturing goods demanded by the market, many Ugandans wishing to start big go to the bank and get  costly loans to undertake an untested business ideas. The huge start- up costs and expensive financing only worsen the loss making in the early business years. For a number of local businesses, this results in what could be termed as the debt trap with small profit margins if any. Debt financing remains very costly in a number of African countries with Ugandans borrowing at rates over 20 per cent per annum.Many business are however only dependent on bank loans with a few even risking with local money lenders.  Amidst turbulent economic conditions characterised by inflation and limited consumption costly financing only eats into the operating profits. Not many countries have operating profit margins of 30 per cent therefore 20 per cent in interest greatly reduces the net profit margin.  Financial institutions nonetheless remain intent on taking advantage of high interest spreads which remain fundamental to their profitability especially during stormy economic waters.

Bearing the high debt financing costs, proper working capital management is a prerequisite for survival of any business yet it remains a big challenge to businesses world over. It is a primary source of financing and means a lot for any company’s liquidity. The management of inventory, debtors and dealing with creditors is fundamental for daily operation of the business and healthy cash flows without which the demise of many entities in their infancy is inevitable. Cash flows are worsened by owners that draw money from the company for personal needs and luxury because they can’t separate what is profit from the revenue. Failure to manage cash flows is a guarantee for losses resulting from high debt financing costs, missed sales due to lack of inventory and losses from uncollected debts. The only sure way to achieve better working capital management is to maintain proper accounting records. Failure to maintain proper accounting records showing the company’s performance over years limits a company’s ability to  assess past performance and make projections for future revenue and profits based on which the company’s value could be estimated. Such information goes a long way in sourcing for cheaper financing from financial institutions as well as potential partners based on past and projected performance.

Even with all other regulatory and other external environment factors to consider, an entity should be in control and proper management of its internal business environment to stand a chance of extending its life span beyond the average lifespan of most start-ups at 3-5years. As evidence of that even the United States has a 75 per cent start up failure rate as reported by the Wall Street Journal.  60 per cent of the failures reach the age of 3 years and only about 35 per cent make the age of 10 years. More favourable external factors in more developed economies notwithstanding, start- up failure rates remain worryingly high. A deduction could therefore be made that control over the internal business environment remains very important for success of a business.


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