Most new businesses are doomed to fail even before they get started. According to the Australian Bureau of Statistics more than 60 percent of small businesses fail within the first three years. I believe this number is even higher, because many businesses that fail were not even registered as businesses in the first place.
Yet, every year more aspiring entrepreneurs decide to go into business for themselves only to make the same fundamental mistakes that others have made in the past. They are inspired by the numerous stories of entrepreneurs who have put everything on the line to start and build a business and how these entrepreneurs have reaped the rewards.
The challenge is there is a “success bias” with these types of success stories. In other words, aspiring entrepreneurs only hear and see the stories of those that have succeeded and not of all those that have failed. There are not many books that have been written along the lines of “I tried to be an entrepreneur once and failed – The Happy Failed Entrepreneur”.
The reason most businesses are doomed to fail and do fail is because they run out of cash. Cash is like oxygen, your business can not last very long without it. Think of cash like fuel and think of running a business like flying an airplane. When you are flying an airplane you want to know, what is your current “burn rate?”. This is how much fuel per hour you are using, you also want to know how long until you get to your destination. This way you can calculate whether you are going to make it or whether you need to start looking for another place to land safely! Running out of fuel in an airplane can have dire consequences and so can running out of cash, both for the business and for you as the owner.
Before starting a business, you want to know your start-up costs, what is your “burn rate” and when you are most likely to start to earn money.
Yes, I am talking about starting to put together a budget. If you are rolling your eyes or feel the need to push back, just go back and re-read the introduction to this article! It doesn’t need to be complicated, however it is crucial to the success of your business and you not becoming one of those scary statistics.
Work out what your start-up costs are going to be. These are normally once off expenses that generally happen right at the beginning. Then calculate how much money you have left over to run your business, let us call this “running capital”. Take the money you have set aside to start your business and subtract the initial start-up costs.
If you have $ 50 000 available to start your business and your estimate start up-costs are $ 14 000, you now have $ 38 000 in “running capital”. This is how much fuel you have.
Next you want to calculate your “weekly burn rate”, in other words how much money you need each week. If you are going to be working in the business, you need to include both the amount of money it’s going to cost you to live each week as well as how much it’s going to cost to run your business each week. Remember if you are borrowing money to factor in the loan re-payments.
You can now calculate your “weekly burn rate” by adding both your living expenses and your business expenses.
If you are going to work in the business and your living expenses are $ 900 per week and your business expenses are $ 2 100 per week. Your “burn rate” is $ 3 000 per week.
The next step is to calculate how long your business can survive without making any money by dividing your “running capital” by your “weekly burn rate.” You now have a worse-case scenario.
In this example you would divide $ 36 000 by $ 3 000 which equals 12 weeks.
Often well educated, highly qualified people who work in larger organisations will tell you that most businesses don’t make money in their first couple of years of business. Well that’s fine if you work for a large organisation that has plenty of resources to fund the new business venture. The chances are you don’t have that luxury of a couple of years however in reality most times it takes more than just a couple of weeks for a business to start to make money.
You are now in a position to start asking some great questions and making some well informed decisions.
1) How might I minimise the “start-up costs”?
2) How might I minimise the “burn rate”?
3) Will I run out of cash before we can make enough sales?
4) At what point do I look at an alternative?
Remember this when starting a business, the amount of money you need to survive each week may be considerably less than the amount of money you would be paid for fulfilling that position if you were an employee. Think of this difference as additional investment in your business. I highly recommend that you keep track of this difference so at a later stage you can look back and see how much you have really invested in building your business.
It will also help you feel better about the amount of money you will be making as a successful entrepreneur as you reap both your returns on investment and returns on effort.