People who start businesses are usually creative and highly-skilled in their core business but rarely have correspondingly advanced skills in financial management. Consequently, the start-up phase can be dangerous for businesses that don’t have the right processes and protections in place.
Startups can be fragile as they depend on winning new business and keeping costs low to build the capital they need to grow. Even well-funded startups can run into issues during these early stages, and received wisdom suggests that as many as 90 per cent of start-ups fail. Often, the reason for failure is as simple as running out of cash but the number one reason for most failures is that there is no market need for the product or service the start-up is selling*.
There are three key financial challenges that start-ups face:
1. Inadequate cashflow management
Cashflow is essential for businesses because, without it, the business simply can’t operate. A business can only trade on credit for so long before its creditors will begin to demand payment. Meanwhile, it must pay employees, cover rent and utilities, purchase raw materials or ingredients, and maintain an income for the owner. All of this is impossible if cash isn’t being managed effectively in the business.
Without a solid background in business management, entrepreneurs could find themselves making incorrect decisions around when to spend money and when to hold onto it. This is exacerbated if there isn’t much money coming into the business, which is often the case in the beginning.
2. Lack of visibility into the marketplace
Entrepreneurs often start a business because it’s something they’re passionate about, not necessarily because there is a genuine gap in the market. Understanding demand is crucial to the success of the business.
Startups can benefit from market information and knowledge on the likelihood of a buyer paying before committing to selling a product or service and can better understand the risks of non-payment when entering a new market locally or internationally (for example political risk). By working with a partner such as a trade credit insurance provider, businesses can get a better sense of the marketplace they’re entering. This can let them make smarter decisions from the start.
3. Longer credit cycles
Startups often depend on goodwill to get their business established. This often means they set overly-generous payment terms or don’t chase late payments assiduously. This can affect cashflow and make it hard for business owners to meet their own debt obligations.
Trade credit insurance can help protect businesses of any size from non-payment by their customers. Furthermore, by working with their provider, entrepreneurs can get visibility into their customers’ payment history. This can make it obvious which customers to extend credit to and which ones to avoid doing business with. It can also help mange late payments by offering a complementary service for chasing outstanding debts sooner and more effectively.
Given that market opportunity and cashflow are so important to the success of a start-up, one of the most important partners an entrepreneur can work with is a trade credit insurer. They can provide the advice and visibility start-ups need to work more effectively with customers, and, in the worst-case scenario, cover the losses from non-payment so cashflow can remain healthy.
Mark Hoppe, Managing Director ANZ, Atradius