Starting a small business can be an exciting experience. You finally get to be your own boss and potentially reap great financial rewards that you built from the ground up. However, owners are understandably so focused on getting their business running that they may overlook some basic considerations that can have a major impact on what lies ahead on the horizon.
Here are five mistakes that entrepreneurs often make as seen by individuals who value or appraise businesses.
1. Short-sighted View It’s understandable that owners want to make decisions that will save money in the short term, but it’s important to consider the long-term growth of their business. Rather than pinching pennies today, owners need to think about sustainable growth and how they can drive value for tomorrow. For example, owners often choose to acquire assets that reduce their company’s income to take advantage of tax benefits. While this tactic can save money in the short term, this can risk diminishing the future value of the company because, with all factors being equal, businesses with low-to-no income are valued much lower than those with strong profit streams.
2. Verbal Agreements Anytime you go into business with someone else it is vital to protect yourself with an enforceable agreement. At the start of a business, when partners are excited and energized it may seem like a written agreement isn’t necessary. However, if the company takes a bumpy path, arguments could arise and cause questions of who is entitled to what and you may find yourself in a court room. There could even be arguments during the good times. For example, if someone wants to retire or sell their portion of the company it’s important to have a clear outline of how ownership will be divided. For any agreement in business, it’s a good rule of thumb to always get it down on paper.
3. Underestimating Obligations Small business owners often don’t realize that the business obligations they take on may adversely impact the value of their company. For example, an entrepreneur decides they want to sign an eight-year lease for their store location and then attempts to sell the company. Anyone who purchases the business must assume that eight-year lease, which could be a huge financial obligation. The cost of the lease may decrease the value of the company, therefore impacting how much a buyer is willing to pay. Leases, contracts, and other obligations are part of doing business and are not inherently bad, however, it is important for owners to recognize the impact they have when looking to the future.
4. Assuming All Finances Are Equal Business owners need financing for operational purposes, such as employee wages, suppliers, as well as for anticipated future growth. Although the need for these funds may be urgent and significant, it is important for entrepreneurs to not accept unreasonable demands from lenders or investors that would burden the company with high interest and debt or give away significant ownership control. Having a strong and realistic business plan in place as well as having sturdy relationships with dependable financial professionals will help you avoid having an unsatisfactory financial situation.
5. Growing Too Fast Without Knowing Your Market Small business owners must take the time to understand their market in order to plan for realistic growth. Defining your competition and calculating your ability to capture market share are all important factors to consider when planning your company’s future. Without this basic understanding, a growth strategy may not coincide with what’s best for the long-term value of your company. We’ve seen it happen before where several high-profile small companies expand too rapidly after encountering initial success. While opening more storefronts or growing your team can be a positive development, it also stretches the business and creates burdensome overhead costs that you’ll need to sustain. Growing too fast is one of the most common mistakes for small businesses and unfortunately can lead to bankruptcy.
Avoiding these common mistakes cannot guarantee the success of your small business. However, it’s vital to understand how various choices will impact your small business from a valuation standpoint so that you can make informed decisions for the future of your company.
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