Addressing Business Failure - Essay Example

?Business failure is “the occurrence where a business entity is forced to cease and close down its operations, after it fails to generate enough cashto cover the expenses it incurs and thus fails to make any profits” (Hughes, 2010, p.115). Such business failure can be caused by cash flow problems. Cash flow on the other hand refers to the inflow and outflow of cash into a business. Car Company Saab had to close down its business operations, after it failed to meet its expenses of paying its suppliers, who in turn stopped supplying the company with requisite materials. The company could also not afford to generate sufficient income to pay the salaries and wages of its employees. Consequently, the business had to close down altogether (Wires, 2011, p.14). Having been established in 1950, the company eventually closed down after 61 years of its operation in the automobile markets Cash flow problems are known to cause 70% of businesses to fail within their first year of establishment, making cash flow problems the major reason for business failure. (Wires, 2011, p.13). The dangers associated with cash flow problems cannot be predicted most of the times. Thus, even the well-established businesses falls into this risk. Although cash flow problems are the reasons for the business failure of the company, there are other various reasons as to why the company could not revive. Due to a lack of goodwill and not a so good reputation, the company could not access credits. Consequently, any means through which the company could improve its operations and head back to the path of profit making was blocked by a lack of access to credit (Howard, 2011, p.21). The size of the company is another factor that contributed to its failure. The company is small sized, thus it becomes difficult to compete with other large automobile companies in the industry. The small size is in terms of both its asset base and the market niche that the company has effectively curved. Another problem that forced the company to close down is its dependence on technology from other automobile firms. The company lacks the ability to develop or purchase production technologies of its own, and have thus been dependent on other companies for the provision of such technologies. With such dependence, it means that the company cannot effectively compete with the companies that are providing it with production technologies (Zeitch, 2011, p.9). Low sales have however been the main reason as to why the company could not meet its required cash generation to cover its expenditure. Having projected to sell between 50,000 and 60,000 vehicles in the year 2010, the company only managed to sell 31,696 cars. However, the problems of the company increased when general Motors blocked the rescue attempt of the company by two Chinese automobile firms, arguing that such actions would hurt the company’s markets in the US (White, 2011, p.2). Most significant of the causes of the cash flow problems of the company is the time difference between when the company’s payments were received and the costs incurred. While the costs were incurred continuously due to staff salaries and supplies of materials from the suppliers, the time duration it took to produce the cars, sell, and receive payments was relatively longer. This meant cash flow problems, since revenues could not come in at the same time as the costs went out. Under investment is another cause of the company’s business failure. While the company was, still a part of GM (General Motors), the owners did not invest sufficiently in the company. As a result, the company has not been able to meet its other obligations such as developing production technologies of its own. This has served to create dependency of the company on other automobile companies for technology provision (Howard, 2011, p.21). This notwithstanding, the production portfolio of the company was too small. The company did not manage to address this problem in good time. With such low production, the company could not distribute its operational expenses over a wide range of products, which would effectively serve to reduce the costs per unit. This acted as a detriment to the company in that it could not reap the advantages of the economies of scale production (Moran, 2009, p.278). Competition is yet another factor that saw the downfall of the company. The company specialized in a market segment where there was stiff competition. Owing to its small size, low production portfolio and technology dependency, then, the company could not overcome the other competitors in the market segment. Higher interests on the loans that the company held further serves to incapacitate the company, plunging it into deep financial problems. Since the company could not afford to pay up its loans and interests in good time, this kept on piling. The interests on loans increased and became a significant part of the company’s costs. This way, the company could not cater for all the costs, and thus had to close down. Thus, high interest rates and poor credit control policies of the company are other factors that led to its cash flow problems and the consequent business failure of the company. The cash flow problems of the company could have been controlled through various ways. Stricter control of debtors is one such method, involving minimization of the amounts of debts owed to the company. The company, by controlling its debtors would ensure that it receives payments in good time to be in a position to cover for the expenditures and other expenses as they were incurred by it. This would highly serve to bridge the time gap between when the company incurs expenses and when it covers for them (Hughes, 2010 p123). Such just in time policy is paramount to help the company avoid piling up debts and incurring higher interests, which serves to increase the company’s costs further. Renegotiating credit terms is yet another recommended solution for the company’s cash flow problems. When the company realizes that it cannot meet the payment obligations it has set with its creditors, renegotiating for fresh and new credit terms becomes necessary. Through such establishment of new credit terms, the company is in a better position to avoid high interest rates that comes with delayed servicing of loans and other debts. While a loan is not covered in good time, the interest payable to that loan keeps increasing. Thus, seeking for new terms effectively helps to eliminate the chances of such growing interests. Other methods such as obtaining bank overdrafts was an option still applicable by the company to cover for its short-term debt obligations, and avoid such debts piling to a higher level that the company could not effectively meet. The company could have ensured that the stock of materials for use in car production runs at a minimum possible level. In so doing, the debts owed by the company to its suppliers is effectively maintained low, while at the same time ensuring that the costs of stock maintenance is low as well. Minimum stock keeping ensures that costs such as storage and warehousing are maintained low, which serves to reduce the costs incurrence by a business entity (Coke, 2003, p.72). Reviewing the pricing strategy would also have been a viable option recommended for the company. This would ensure that the revenues generated from the sales of the company’s vehicles are sufficient to meet all the expenditures of the company and leave the company with a reasonable profit margin. Pricing strategy helps the business address its cash flow problems in various ways, namely ensuring it sells more, it cuts down costs, or it increases its profits. The cash flow problems of Saab Car Company are indicated by the fact that ratios such as the working capital ratios and the liquidity ratios are not balanced. The cash required for the company to meet its day to day expense requirements such as pay the suppliers and the wages for its staff is not sufficient. This forces the company to cease its production and later close down its operation, after it cannot even afford to pay up its staff. The liquidity ratio of the company is also very low, a clear indication that the company falls short of liquid cash to meet its cash expenditure requirements. Such problems have been caused by low sales of vehicles by the company, below the projection for the company to break even and realize some profits. Higher interests accrued by the company through the accumulation of unpaid loans served to cripple the company’s financial status even further. However, through obtaining bank overdrafts, renegotiating for new credit terms, and adopting new pricing strategies, the company can rejuvenate its financial capability. Maintaining low stock levels also ensure that operational costs are minimized and thus a better opportunity for the business to increase its profit margin. Works Cited Zeitch, C. (2011). Saab declares bankruptcy, likely to close. Business News. 9-11. Coke, C. (2003). Cash Flow and Budgeting. London, Lynne Reinner Publisher, Inc. 72-75. Hughes, E. (2010). Addressing Business failure. Lucent Books, San Diego, Calif. 115-135. Moran, L. (2009). Cash Flow: Reasons for business failure. Peterson Institute for International Economics, 278-279. Wires, N. (Tuesday, June 2011). Saab faces critical cash flow shortage. Reuters. A14. Howard, T. (2011). Saab facing bankruptcy over unpaid workers. Journal of Economics. Springer. 20-24. White, T. (Thursday, June 2011). Cash flow crisis at Saab: what went wrong? Business Studies Blog. 2-4. Read More