CHAPTER THREE
Helping Small Businesses Cope
BUSINESS GROWTH IS A REWARD for achievement and should be cause for joy. Instead, for far too many small- and medium-sized businesses, growth turns into nightmare. Just as the company seems poised for rapid and profitable growth, it gets out of control and into severe trouble.
Even if the business survives the crisis—and many do not—it often will have lost its earlier growth potential and remain permanently stunted. And in the most favorable case, the business that then recovers and goes on to success, there will be deep and permanent scars.
I have learned to apply five simple rules to enable a small- or medium-sized business to grow without getting out of control and without suffering the severe affliction of the growth crisis.
1.
Growth requires investment. It always strains the financial resources of a business. And unless the business is managed for cash flow, growth is likely to create liquidity pressures that might even force the growing business into insolvency. Profits in such a business come second. Indeed, in a rapidly growing business profits are an accounting delusion; they should be considered contingency reserves.
2.
The growing business, especially the growing small- or mediumsized business, needs to anticipate the financial structure and financial resources it will need—at least two and, better still, three years ahead. It needs to go to work now on obtaining the outside money it will need to sustain its growth.
Financial requirements of a business do not grow proportionately with sales volume. Some areas may need disproportionately more money, others disproportionately less. Receivables, for instance, may have to grow twice as fast as sales—but they may also grow only half as fast or hardly at all while sales double. And this applies in all areas—manufacturing plant and equipment; distributive facilities, such as warehouses or delivery fleets; investment in technical service or in materials inventories.
As a result, capital structure always needs to be changed during rapid growth. Today’s structure always becomes inappropriate and a straitjacket. If tomorrow’s financial needs and financial structure are tackled today—that is, a few years ahead of the need—a sound business can almost always obtain what it needs in the right amount and in the right form, whether equity, long-term debt, medium-term notes, or short-term commercial credit.
If the business waits until it needs the new money, it will have waited too long. Even if it can get what it needs, it is unlikely to be in the right form and almost certain to be very expensive.
Financial planning for the growing business need not be elaborate; indeed, it rarely can be elaborate. But it needs to be timely, and that means way ahead of the actual need. The starting point has to be the realization that growth is qualitative and changes financial needs and financial structure. Growth is not just “more”; it creates something new and different.
3.
To grow without running into the growth crisis, a business also needs to anticipate future information needs. Growth always requires data beyond those furnished by the accounting system—data on what goes on outside the business and especially data on what goes on in the marketplace.
I remember vividly a small company in the consumer goods business with a very successful innovative product range and a growth rate in sales of 10 to 15 percent compounded each year. The company announced a fairly sharp price increase but offered to supply present distributors with goods at the old prices for the rest of the year. Sales spurted by 50 percent that year. But after the first of the next year, sales completely dried up. Six months later, they had recovered to only half the earlier level. The company collapsed and was forced to liquidate.
Actually, nothing had happened except a lack of data. The ultimate consumer continued to increase his purchases at a 10 to 15 percent rate. But the distributors had stocked up in anticipation of the announced price increases and were holding back new orders until they had worked off their inventories.
Nobody in the company realized this, however, for everybody (mis)defined “sales” as deliveries to the distributors—the legal and accounting rather than the economic definition (and usually the wrong definition, by the way). The simplest sample of customer purchases—for instance, a sample of the actual sales by 1 percent of the distributors once a month—would have told the company early what was happening and would have enabled it to take the appropriate measures.
But lack of such simple data, as anyone familiar with small and growing businesses knows, is all too common. The small- and medium-sized business that expects to grow therefore needs to ask, “What additional information do we need to have real control and to know what really goes on in our business? What are real results in the business and what are real costs?” And it needs to develop this information well before the time at which its absence can cripple it.
4.
Small- and medium-sized businesses that want to grow need to concentrate on technologies, products, and markets. They need to free themselves by sloughing off diversions.
There is, for instance, the manufacturer who sells $12 million a year in his home market, the United States—up from $3 million fi ve years ago—and who indulges himself in an international business, consisting of a joint venture in Japan and two small plants in Europe. After fi ve years of hard work, they sell a total of $1.5 million and lose every year $600,000. Worse, they absorb up to one third of the time of all the key people in the company, who forever dash off to Osaka or Hamburg to “straighten things out”—without, however, ever staying long enough to achieve anything.
Or there is “our prestige line,” the “flagship of our fleet,” or—conversely—the “popular low-priced line” developed in an abortive attempt to get the company’s goods to the discount stores and “to make us a factor in the mass market.”
Growth makes large demands on energy, especially on managerial energy. It demands concentration on areas where the results are. And it demands willingness to give up areas in which there are only efforts but no real results, no matter how promising these areas looked when the company first went into them.
5.
The small- or medium-sized business usually cannot afford much by way of top management. But if it wants to grow, it better make sure that well ahead of time it develops the top management it will need when it has grown. Small, growth businesses start out typically as the brainchild of one or two men. These are usually entrepreneurs with vision, drive, ability, and courage. But they are still only human beings, and thus endowed with weaknesses as well as strengths.
There is the company, for instance, started by a man with high product imagination, great capacity for product design and development, and ability in promotion. He builds a fast-growing, highly successful small company on his ability. But this kind of man is often bereft of financial sense and tends to be a “loner,” moody, and ill at ease with people.
If he is conscientious, he will almost certainly kill the business. He will force himself to work on finance and other tasks for which he lacks ability. By spending so much time on what he cannot do well he will neglect what he can do well. A few years later the growth crisis hits and this kind of company usually goes out of existence, having lost the original advantages its founder gave it.
Equally common is the man who brushes aside as unimportant any concern about people, finance, or distribution while he concentrates on product design, development, and promotion. Three or four years later his business will also be in crisis. Still, it can often be salvaged; at least it has the right products and they are positioned right in the marketplace. However, it is still likely to remain permanently stunted, while the owner-entrepreneur will probably lose control and be jettisoned in the course of the rescue operation.
What the small- and medium-sized business needs in order to grow is to ask: “What are the key activities in this business (and people and money are always key activities in every business, although never the only ones)?” Then its top people must ask: “Which key activities fit the people at the top?” Then: “Which of our associates have the capacity to take on, in addition to their current duties, the key activities for which the present managers are not suited?”
These people are then assigned responsibility for specific key activities, preferably without publicity, without change of title, and without being paid a penny more. Five years later, when the business has grown, it should then have the top management team it will need. But it takes five years or so to develop such a team, and if the job is not started beforehand the company will not be able to become or remain larger. It will buckle under the additional load that growth always imposes.
It is difficult if not impossible to cure the growth crisis of the small- or medium-sized business. But it is fairly easy to prevent such a crisis, and vital to do so.
(1977)