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Growing pains can be fatal

08 June 2016

Too many well established businesses can become fatally unhealthy because owners impulsively decide to grow them. Having survived the first three years after start-up, when one in three businesses fail, an owner will launch an expansion program on the basis of perceived market opportunities without a proper understanding of its complexities.

There are three fundamental causes of catastrophic business growth.

  • A rule of thumb is that if a business’s turnover is growing by $1m annually and it’s making $600,000 profit, then it needs to have on hand another $400,000 to fund growth and as a buffer against unforeseen circumstances.
  • Businesses attempt to grow when fundamentally they’re not profitable. Lack of cash is one manifestation of an unprofitable business.
  • Businesses are put in growth mode with insufficient working capital to pay for long-term assets like new plant. Trouble ensues when owners lose sight of what’s happening with profitability and cash flow.

Business owners contemplating a growth program must have an understanding of working capital absorption ration. This enables an owner to know how much working capital they require to increase sales by a specific number.

Business owners can blame virtually any factor or number of factors causing pain in their processes of growth, but it is at least one of the above three disruptions that may well kill the business.