The failure of new and existing South African businesses is a topic that has been discussed and debated for years. According to a study by The Small Enterprise Development Agency (SEDA: 2007), a subsidiary of The Department of Trade and Industry, South Africa has one of the highest failure rates of new SMEs in the world, at an estimated 75%. According to a speech given by the South African Trade Minister, Rob Davies at a press conference in May 2013, five out of seven new small businesses started in South Africa fail within the first year. That is an alarming failure rate of 71%. As cited by Adcorp Analytics (2012), the growth of local small businesses has stagnated between 2003 and 2012, despite the economic ‘boom’ experienced in the country between 2004 and 2006.
According to The Global Entrepreneurship Monitor’s Annual Survey on Global Entrepreneurship (2011), South Africa had an estimated 5,579,767 small business owners, of which nearly 80% were retailers while more than 20% were service providers. These businesses accounted for almost 12 million jobs in the country. A considerable number of prospective entrepreneurs have a slanted impression of entrepreneurship and in most cases, these individuals want to pursue entrepreneurship for all the wrong reasons, with little commitment to hard work but rather an attitude of “It is my right”. This is evident from ‘personal experience’ in managing a Start-up Coaching and Business Plan Consultancy in South Africa since 2006.
The high failure rate of small businesses in South Africa suggests that there is something fundamentally wrong. The key to small business success lies in hard work, commitment, dedication, and continuous learning; all of which improves the chances of ensuring a sustainable business enterprise. The South African Entrepreneurship Magazine (2015) argues that local entrepreneurs’ primary focus is on initial success with little attention paid to establishing a solid skill set and foundation of knowledge in the form of a business plan and cash flow management. A summary of the main reasons why South African small businesses fail to survive – as cited by both FinWeek (2014) and the South African Entrepreneurship Magazine (2015) – support this:
- Lack of basic skills and being in it for the wrong reasons will lead to Failure. It is argued that a considerable number of prospective entrepreneurs want to start a new business to ‘get rich quickly’, with little to no focus on acquiring the essential basic business skills to ensure long-term success and sustainability. From personal experience, an alarming number of prospective entrepreneurs are not willing to do the necessary foundation research and exploratory market analysis with the aim of building a solid business case. They would rather task an external consultant to do all the work on their behalf with little involvement on their part with regards to business model refinement, strategic planning, market research and basic financial management. Ravi Govender, head of small enterprises at Standard Bank, argues that although statistics vary, on average about 50 per cent of all start-up businesses in South Africa fail within 24 months due to the inability and inexperience of their owners. He further cites that one of the main reasons for the premature failure of small businesses in South Africa is that they are started as survivalist ventures. It is almost inevitable for them to fail because their owners do not have the skills, experience or resources to build a sustainable business. A lack of management experience and training results in new entrepreneurs not fully coping with the range of responsibilities they face within a business.
- Lack of an adequate market will lead to Failure. Prospective entrepreneurs pay very little attention to their market and potential customers. As indicated earlier, very few individuals are willing to do the necessary groundwork to support their business idea with solid facts and industry research. This results in prospective entrepreneurs realising, often too late, that the market is either too small to adequate and consistent income or, they try to be too much to too many, with the business losing focus.
- No or poor business plan will lead to Failure. Many prospective entrepreneurs have no formal business training, and tend to ignore the vital stage of developing a business plan. As a result, they do not have a realistic grasp of the industry, market, external environment, costs, responsibilities and medium- to long-term requirements of a business. In South Africa, like in most other countries, any investor – whether it is a government funding institution, a private financial institution, a commercial bank or a private investor – will require a business plan to be presented to them as an integral part of the funding application; a succinct proposal that will provide adequate proof and factual justification of the potential sustainability of the business venture. Unfortunately, most prospective entrepreneurs have little to no knowledge of how to prepare a viable business plan that will meet the stringent criteria of the South African investment community. Moreover, even if they do subcontract the compilation of the business plan to an external consultant, most individuals are not willing to participate in the consultative process of writing a concrete business plan that will provide a factual blue print of the business idea and potential market opportunity that they wish to exploit. From personal experience, these individuals have an attitude of “I need the business plan to apply for funding; no more, no less”. Unfortunately, in not participating in the overall business plan writing process, prospective entrepreneurs find it extremely difficult to present their business idea to investors; the notion of “If I have a business plan I will successfully secure funding” rings very true in South Africa. Unfortunately, prospective entrepreneurs that display this attitude often fail in securing the required funding. The business plan in itself is not enough to ensure success. Other factors such as entrepreneurial aptitude, a prospective entrepreneurs’ personal financial situation and ability to adequately present their business case carries tremendous weight in presenting to potential investors.
- Lack of financial literacy and poor money management will lead to Failure. The South African landscape lends itself to the fact that many individuals have limited education and training on basic financial literacy skills. These individuals form part of the pool of prospective entrepreneurs. Without basic financial literacy and adequate business knowledge, an entrepreneur might not distinguish profit from cash in the bank. They start living a lavish life and realise too late that there is no money to pay funders, investors, suppliers, employees, and creditors. The low level of savings by the South African public underpin the notion that prospective entrepreneurs do not re-invest profits into the business but rather live from month to month. Since 1980, savings to gross domestic product (savings as a percentage of GDP), which was at 35 per cent in 1980, has seen a decline to below 15 per cent in 2014. This is according the Standard Bank (2014). Most notably, according to Michael Daniels of Standard Bank (2014), the country’s household income to debt ratio has remained above 50 per cent. In 2009, The Banking Association of South Africa undertook a survey to identify the challenges South African finance institutions (FIs) face when financing SMEs. Survey questions related to specific categories of SMEs defined in terms of annual turnover based on the definition used by The Banking Association. The survey results revealed that the majority of institutions fund all categories of SMEs. However, unlike lower-end SM’s, SMEs with higher turnover required less additional support prior to becoming a candidate for finance and enjoyed higher approval rates. The SMEs financial status or ability to repay the loan (cash flow) and financial (cash and/or collateral) contribution to the investment/funding deal were the most important financing evaluation criteria. In addition, finance institutions require solid financial records and statements, a winning sales pitch, good business plans (that SMEs understand) and expert knowledge. Age and educational qualifications are less important for finance institutions, which are also tolerant of issues that can be addressed or fixed, such as FICA compliance, correct paperwork submissions, and accurate costing and pricing. Countless prospective entrepreneurs do not understand the financial requirements and obligations of a business, including aspects such as tax obligations, financial costing, pricing strategies, financial control and VAT. Furthermore, many prospective entrepreneurs use the company account as a personal account and fail to split the two so that the company account is managed as a ‘separate entity’. This results in a misunderstanding of the ‘true’ expenses, income and profitability of the business.
- Inability to secure funding will lead to Failure. Most experts would agree that arguably the greatest challenge facing entrepreneurs in South Africa is the difficulty and in most cases, inability to secure funding for new start-up business ventures. According to First National Bank (2013), South Africans are confused about the meaning of entrepreneurship; many put micro-enterprise and high-growth entrepreneurship in the same category. Funding micro-enterprises require providing small amounts of cash, while funding high-growth ventures is based on the future value of that venture. In most other parts of the world, especially in the USA, entrepreneurship is a word that depicts purely high-growth enterprises. Finance institutions and investors have a duty to methodically interrogate new business ideas they’re requested to fund; the focus should be on trying to understand how committed and resilient the prospective entrepreneurs are, how sound the business model is, and what the possibility is of business failure, taking various tangible, intangible and potential risks into consideration. The adage of ‘It is harder to find customers than capital; capital flows to commercial success’ has never been more true. Finance institutions have specific criteria that need to be met by prospective entrepreneurs. Commercial banks especially, have little to no room to take on risk, especially those inherent risks associated with start-up business ventures. Moreover, these banks would normally require a start-up company to contribute up to 75% of their own funds towards securing the loan, and in most cases, a high level of asset-backed security may also be required. Government institutions may be more lenient and in some cases offer preferential interest rates and loan repayment terms, but other criteria such as a focus on only funding Black-Owned Enterprises and specific high-growth industries such as Renewable Energy and Manufacturing limit the number of potential start-up entrepreneur applicants.