Rapid growth - is not always healthy
Speaking about goals, business owners often mention a rapid growth, however, the experts warn that unmeasurable growth can expose small or medium-sized businesses to decease, sometimes - even fatal. Vaidas Lazauskas, Director of Corporate Clients of Kaunas region and branch of Šiaulių Bankas, speaks about diseases that can affect a rapidly growing business, advises how to treat and how to completely avoid them.
The Kauffman Foundation and Inc. magazine conducted a survey figuring out how successful are companies that were included in the list of the 5,000 fastest growing companies compiled by the publication five or eight years ago. It turned out that two-thirds of the list went bankrupt, shrank, or were sold unprofitably.
A period of rapid growth
Vaidas Lazauskas is not surprised.
"The rapid growth of the turnover is difficult to manage. By financing rapidly growing companies, banks carry out a comprehensive analysis of the company's financial and operational performance. It is important to assess not only that warehouses have to be stocked with more inventory, but also whether there is a sufficient capacity of the equipment, whether the supply chain will withstand higher volumes, or whether there will be enough credit limits agreed with the suppliers and to what extent additional human resources may be needed. The growth of the company's turnover in one way or another must be financed. If the company did not borrow from the bank, if the shareholders did not add additional funds to finance growth, if the suppliers did not provide additional provisions, it usually means that there may be disturbances at some stage of the operation. For example, a company may start delaying its settlements with suppliers. Not all suppliers are willing to wait for their money - some are starting to apply different sanctions."
According to the interlocutor, the growth is considered as dangerous when the company's turnover goes up much faster than the average of its sector.
"It's a signal for the bank to pay attention to reasons that caused such rapid growth. It often happens that a company signs some unfavorable contracts that increase turnover in the short term and can lead to losses in the long run."
The growth of SMEs is often driven by new buyers.
"Being excited about a quick opportunity to sell much, a less experienced business does not always assess the financial situation of the new buyer. Such cases can be particularly painful if business does not diversify risks and become dependent on one buyer", - says V. Lazauskas.
The world does not lack the examples where a very fast growth has burst the company itself or at least its ambitions. In 2007 the mobile application market has been rocked by Zynga - they have introduced the Texas Hold'Em Poker game and one of the most popular Facebook games - Farmville. The market prevailing with the idea that free-to-play games are of extremely low quality and worthless downloading was dominated by the company's Poker and Mafia Wars. In 2011, the company had so much money that had built its data center for for USD100 million. However, investing into equipment Zynga has forgot about innovation. In 2015 there were speeches about the first wave of dismissals with the data centres were closed them. The company is still operating, but does not belong to the elite of game developers. Its founder, Mark Pincus, acknowledged that he was unable to cope with the excessive growth.
Summing up V. Lazauskas says that a fast growing company must to assess many complex issues.
"Sales and marketing experience is not enough to forecast and manage them - it requires financial knowledge and discipline. Therefore, with the onset of rapid growth, it is worth working with a strong financier. If the SME does not have one, the bank can help."
The expert says that the second illness often faced by SMEs that they forget to include a chapter How to attract employees into their business development plan.
"From experience we can often see that companies have not been considering where and how to attract new employees. Specialists are difficult to find, especially in the regions. The situation in the market is really sharp and serious to the extent hat the bank sometimes stops financing of some projects if the company has not seriously considered this issue, "V. Lazauskas warns about the consequences.
At the end of XVI century the first tulips appeared in the Netherlands. Expensive tulip bulbs arrived from Turkey and seemed a great investment for local entrepreneurs, a rare flower could cost as much as an annual master's salary or a house. Tempted to invest the Dutch did not hesitate giving away all their savings, pledging their houses and businesses to banks. The tulip mania reached its apogee in 1967 when growers began to accumulate bulbs before the planting season and even less of then remained on the market leading to increased prices and demand. However, the emotional market did not affect the economic laws: the more people were planting tulips, the less they began to cost, some prudent merchants decided to sell their tulips and they had been followed the whole crowd. Prices slip down and the tulip bubble exploded.
The interlocutor said that today's business is still often not able to plan its investments.
"It happens that SME uses its working capital for investments in equipment or real estate. Such behaviour ruined many companies during the last crisis as they invested their working capital into objects that were not related to direct business - it was popular to buy or build real estate, - recalls p. Lazauskas. - Often, unsuspecting company buys the necessary equipment from its working capital or performs repair of the premises, and only later becomes aware that it lacks funds for its usual performance. In such cases, the bank helps to "rewind" the situation - we give a credit for refinancing of investments in order to finance long-term investments with long-term money. It is important to adhere to these rules, which allows you to maintain acceptable solvency ratios. Now solvency ratios are assessed not only by banks, financial reports of companies are often examined by both existing and new business partners, they are required to participate in public and private procurement tenders. The fact that a correctly structured balance sheet is necessary not only for acceptable ratios."
Sometimes companies are not ready for investment which can also be a problem for SMEs.
"Banks typically finance a larger proportion of the required funds, however, not 100%. Hence, the company must accumulate its contribution in advance, however, it often fails to think about it. It happens that then the company uses the working capital to finance its own portion of funds - the problem cannot be solved this way and is only postponed to the near future.
The interlocutor reveals often facing a business that drawing an investment business plan forgets to think that it will need additional working capital.
"Additional working capital is needed for development, purchase of new equipment, construction of warehouses, etc. At the initial stage of the investment project, it is worth talking with a corporate client manager at the bank to properly evaluate all possible financing needs and opportunities ", - advises V. Lazauskas.
Suitable financial instruments
The bank expert says that one way to solve financial problems is to consult banks. SMEs often do not have all the necessary information about banking products and cannot properly assess which financial instrument is best for the company.
"It happens that entrepreneurs draw examples from partners and colleagues, and when they come to the bank, they ask for the same. Very rarely, an identical financing product would be suitable for a different company. The Bank’s managers understand this, so we start the process by figuring out the company's motives and real needs, " - says V. Lazauskas. - It is best to come to the bank without any prejudging - just think and indicate the real needs of the company, its plans, and where exactly the borrowed funds will be used. Openness and clarity help to select the most appropriate financial instruments for a particular company."