This article seeks to highlight Top 5 financial mistakes startups make as well as tips on how to cope with them.
According to a study by Harvard business school, more than 20% of most businesses fail in the first year of operation with some lasting even shorter. The reasons for failure are numerous including under-capitalization, lack of proper planning, investing in the wrong business venture, having the wrong employees among others. The biggest cause of business failure is managing funds properly. Having the right amount of capital is the first step but even more important is how to manage this money to ensure you have a healthy cash flow until sales start flowing.
Underestimating the strength of human capital
This reason accounted for the failure of over 30% of startups in US alone according to the study. Because this is that most entrepreneurs don’t acquire employees when starting a business. Instead, they do everything until the business starts generating money then they begin to hire.It is understandable that such an individual might not have enough money to hire skilled human force but as a serious entrepreneur, you must plan for such expenses from the beginning. The founder acts as the CEO, the marketer, the accountant, the assistant and all other positions and thus he/she will not have enough time to concentrate fully on any one function. Thus, it is important to hire at least two or three employees when starting. The trick is to hire the most important ones first like a marketer and hire the rest as the business progresses.
Underestimating business expenses
It is common for a business to operate without generating any sales for the first few months. During this period, the founder must have enough money to ensure smooth operation of all functions within the organization. The biggest mistake that startups make is expecting the business to generate sales within the first month thus mobilizing enough money to get them through the first month alone. It is also key to note that most clients expect to buy on credit and pay at a future date.What happens if they delay payment? Thus as an entrepreneur, it is important to have accurate and realistic estimation of the cost of the business for at least the first six moths of operation.
Financing the business with too much debt
Most entrepreneurs use bank loans to start a business, and this becomes the first step in failing.Although it is a good alternative for financing a startup, it should be used as a last resort. The reasons for this are numerous; firstly debt financing will increase expenses of the business by a huge margin due to repayment of the loan and interest. Another reason is that the lender will demand a lot of power in the business.If an investor invests in an idea, he/she will be interested in the business as a precaution to safeguard their money. As a result, the founder lacks the flexibility required to make decisions about the business thus leading to failure.
Failure clearly distinguishes personal assets and business assets
In the first few months of operation, an entrepreneur can decide to use his car for distribution of suppliers and other functions of the business. Although it is a way of reducing business expenses, using personal assets in the business causes a lot of interruption to both employees and the founder. To succeed as a first-time entrepreneur, there is a need to devote all the resources to the functions of the business. Further, this brings confusion when evaluating how much the business is worth like when applying for a loan.If personal assets are included in the companies assets, it can lead to overvaluation of the business.
Lack of proper accounting procedure
This factor was also another common cause of failure among Top 5 financial mistakes startups make according to the study. Though every business owner hopes to have honest employees, the idea of having one or two dishonest employees cannot be ruled out. It is important to have proper accounting procedures that minimize costs, encourage accountability and transparency as well as act as a control measure. Further, a good accounting procedure will provide a better estimation of sales and costs thus acting as a tool of budgeting.
To recap, financial management is one of the most important factors that determines the success or failure of a business. Having a sound financial management culture in a startup is the first step towards succeeding in the corporate world. An entrepreneur should plan properly for this factor before starting a business.