Probably everyone who starts a small business has its eventual growth in mind. But what happens when growth is rapid and maybe even surprisingly fast? It may not be time to celebrate. It’s a time to plan, stay on top of all financials, and seek outside counsel. A period of rapid growth can, despite what it may look like, be a dangerous time for a business. Failure is possible, unless critical areas are addressed and managed.
The formal definition of fast growth is that a company is earning a 15 percent return on its equity. It can also be seen as any growth that is out-pacing other businesses in the same industry or in the market as a whole, according to Hollis McGuire, an NH SBDC business advisor based in Nashua.
Rapid growth may take attention away from the business's core idea. It may require an influx of cash or capital, or both. The owner might need to spend so much time playing catch up and seeking new funding that company culture, employees or the management team are neglected. Too much debt may be taken on to keep up with expansion or developing new products. A business may expand too early or, conversely, have no ideas on how to expand when and if an initial idea wanes, as can be the case in technology businesses.
With fast growth, company owners need to step back and get help from expert outsiders, such as the business advisors at NH SBDC. An advisor can help develop solid projections that can be shaped into sustainable short-, medium- and long-term strategies.
NH SBDC business advisors will start with an examination of the business’ Profit and Loss Statement and its Balance Sheet, to make sure everyone understands what’s going on. “There are often things that need to be cleaned up within one’s financials,” Hollis said. “We’re often dealing with imperfect information.”
Quite often such a review reveals that an influx of cash is necessary to stabilize things. “Then the question becomes ‘What kind of cash?’. We put together a strategy to get it in the door, and that can take a little while,” Hollis says.
The next step is to get a handle on operations. Often the business has a long-term vision from launch. It’s when they keep responding in the short term, and getting surprised, that gets them in trouble.
“Every business is different,” Hollis says. “But one place that is a constant worry is cash flow during periods of fast growth. Focusing on cash flow is important for every business, at whatever stage, because it’s crucial for keeping the business going. But if growth is fast, you can run out of money faster and the stakes can be higher. You can put yourselves out of business by your success.”
Growth has to be understood in all its cost elements, according to Hollis. Making a tangible product, for example, comes with tangible costs: inventory, raw materials, etc. It’s harder to keep up with those during fast growth. If the growth requires more employees, the hiring process itself comes with expenses such as getting them on the payroll, working out logistics, finding space, adding insurance coverages. All those usually predictable expenses can explode and erode cash flow, Hollis says.
“How is the business going to keep up with financing and infrastructure, with management development and with training employees?” asks Warren Daniel, NH SBDC business advisor, when meeting with clients who are facing a pattern of fast growth. “The first question to ask is whether or not the growth is sustainable. Is the market going to last?”
A solid strategy includes one that is short- and long-term, but also pays attention to the middle-term. Ask the question: What is the business going to look like in one, three or five years, Daniel says. How can the need for new financing match up with the need for expansion? Is your management team ready to handle growth?
An example might be a new restaurant opening in a popular area. They’ve planned well and have a great product, so the minute word gets out, diners are lining up out the door. Soon, the physical space is too small and the public isn’t willing to wait in line for over an hour. The restaurateurs know they need more space, and for that they need new financing. Now they’re spending precious time on loan applications and making pitches, perhaps neglecting hiring needs and quality control. The restaurant crashes under its own weight.
In the tech world, it might mean the development of a new “app” that really takes off. However, customers are fickle and technology could easily replace one’s app with something better. How can the company grow beyond the first product? Does the company have a plan for that?
“We try to look at all the indicators that can show if the business is on the right path,” Hollis explains. She’s seen cases where companies started product lines they didn’t want to start, just to keep up. She encourages a look at each and every product, broken down by its profits and losses, and its profit margin. Some products may just need to be dropped.
“And sometimes the numbers shouldn’t drive every decision,” Hollis explains. “If one of the products isn’t profitable, but it’s seen as the company’s signature product or part of its branding, keeping it might make sense."
Having enough cash on hand is the greatest challenge to companies in a fast growth phase. Hollis explains that as accounts receivable grow with the increase in sales this puts pressure on cash flow, as the business is in the position of being “the bank” for those customers who have not yet paid. Not enough cash is coming back into the company from sales, and at the same time products - which cost the company cash - are still going out the door – even faster as sales grow. This lack of enough cash flowing in is a very real danger in all industries but especially in industries where the cost of goods sold is high and the profit margins are narrow, such as the manufacturing sector. “If customers don’t pay quickly the business can go belly up from successful sales growth,” Hollis says.
Companies in this position often delay paying vendors as they struggle to maintain cash on hand. This strategy will quickly result in lost discounts from timely payment, and over time strain vendor relationships, sometimes beyond repair.
If fast growth could be on the horizon, it should be planned for as much as possible as it can be a great thing for a fledgling small business in New Hampshire, but there are stumbling blocks. Long-term success means developing solid financial projections, getting expert help, and managing critical areas of the business well.