The failure of small businesses has been one of the most researched topics in the world over the last two centuries. Since early 1900s a number of research studies have been conducted to establish the various causes of small business failure. In the United States of America small businesses constitute nearly eighty percent of all the business sector. On average, eighty percent of these businesses fail within the first five years, whereas fifty percent of the businesses fail in their first year of inception. Year after year, thousands of research studies are conducted to investigate the causes of small business failure. However, most of the studies provide general conclusions. Hence, there is greater need to conduct more studies on specific businesses to establish the causes of their failure. This is because every business faces unique challenges that are different from challenges faced by other businesses even if they may operate in the same industry.
What is Business Failure?
Different research studies provide varied definitions for business failure. For the purpose of this research, business failure would refer to inability of enterprises to meet their financial obligations. It is the termination or unexpected closure of an enterprise due to inability to generate adequate profits or revenues that can cover up for operational expenses of the enterprise.
The purpose of this research study is to explore the factors that led to the failure of Smart-Lady Apparel. By identifying these factors and understanding their dynamics, it is visualized that appropriate strategies can be formulated and implemented to help reduce the rate of failure of other small businesses. The objectives of this research are to identify factors that led to the failure of Smart-Lady Apparel and to suggest ways in which the factors could have been avoided or solved.
Smart-Lady Apparel was private company in New York. The company was headquartered at Times Tower Park, New York City. Smart-Lady Apparel majored in distribution of clothes or apparel and accessories for women. In addition, the company also supplied beauty products such as cosmetics, fragrances and perfumes for women. Smart-Lady Apparel had an employee base of nearly one hundred workers and was rated as one of the fastest growing small enterprises in New York City. A combined research study by Kim and Johnson (2009) in 2008 revealed that Smart-Lady Apparel was one of the best performing clothing retail shops in New York City based on the unit sales and annual revenues in 2008.
By the end of 2009 it was reported that financial position of Smart-Lady Apparel had been severely affected by a well-organized, systematic and creatively planned accounting fraud that led to its collapse in August 2010. In addition, the company also suffered from extreme mismanagement by its newly appointed chief executive officer and director, Mr. Richard Peterson. In January 2010 the company started reporting losses due to massive misappropriation of funds by its management, unexplained increase in operational expenses, poor management and reduced sales volume. The accounting scandal inflicted by Mr. Peterson on the company was the largest and most complex in the history of the business.
Following the resignation of Mr. Peterson from the company in April 2010, the name of the business was changed from Smart-Lady Apparel to Smart-Lady Holdings Limited. These were last minute attempts to save the company from collapsing as well as to restore public trust in the business. However, these efforts were not fruitful and the business finally collapsed in August 2010. Immediately after it collapsed, the business sold most of its stocks to one of its rivals and strongest competitors, Retail Ventures Inc.
The major competitors of Smart-Lady Apparel included both medium-sized companies as well as large companies, such as Ann Taylor Corporation, Genesco Incorporation, Jones Apparel Group, Joss A. Bank Clothiers and Ports Design Ventures. In addition, the company also faced stiff competition from retails shops, such as Retail Ventures, Ross Stores and the Dress Barn.
The vision of Smart-Lady Apparel was to become the largest retailer of clothes, beauty products and accessories for women in New York State. The business strived to meet the ever-changing demands of women. The mission of Smart-Lady Apparel was to provide low-cost highly styled and fashioned clothes to modern women. The business strategy of the company was founded on the belief that most clothing companies, such as Woman’s Palace Clothing and Ann Taylor LOFT, retailed less fashioned clothes which were sold at high prices (Kilduff, 2008).
Smart-Lady Apparel was founded in 1996 by Gerald Kirstein. Mr. Kirstein started the company after conducting an extensive and exploratory market research of the retail clothing industry. According to Kilduff (2008), Gerald Kirstein found out that the retail clothing sector for women’s clothes was less competitive and had a market niche which could be exploited. Moreover, Mr. Kirstein observed that most modern women are passionate about highly styled and fashioned clothes. Mr. Gerald Kirstein targeted the low income earners because he believed that the needs of these people are insufficiently met. Smart-Lady Apparel failed in August 2010, only eighteen months after the death of its founder.
There are many factors that led to the failure of Smart-Lady Apparel. First and foremost, the company collapsed as a result of a major accounting fraud that was conducted by Mr. Peterson when he took over the management of the company after the death of Mr. Kirstein. Mr. Richard Peterson was a nephew to Gerald Kirstein. Due to financial malpractices that were inflicted on the company by Peterson, many financial institutions, such as commercial banks and microfinance companies that provide loans to small and medium-sized enterprises, were not willing to lend or give loans as well as other essential financial assistance and support to Smart-Lady Apparel. This inability to access loans frustrated efforts of the company to acquire additional capital to finance its operations. Finally, the company became bankrupt and collapsed.
Secondly, Smart-Lady Apparel collapsed due to mismanagement. The top management of the company under the leadership of Mr. Peterson did not have the acumen, expertise and commitment to see the company succeed in its business. In addition, Mr. Richard Peterson was an autocratic leader who rarely allowed the middle-level employees to contribute in the management and affairs of the company. The top management also failed to give adequate support and motivation to the employees. This resulted into reduced employee satisfaction, decline in production and high employee turnover as most employees opted to seek employment in other companies. According to Watson and Everett (2010), lack of commitment of the top management of any given organization often affects its success, growth and development. Due to high employee turnover, Smart-Lady Apparel lost the majority of its highly qualified and experienced workers to the competitors. This led to further decline in production at the company, and consequently, failure. Lack of top management commitment and poor leadership in Smart-Lady Apparel also resulted into inadequate planning. In my opinion, the top management failed to plan strategically for success of the business in future. Lack of adequate strategic plans often leads to business failure (Watson & Everett, 2010; Kern, 2008).
In addition, Mr. Peterson lacked vision, ideas, knowledge and skills on how to manage and run business. He also chose his close relatives and friends to be the key decision makers in the organization. In my opinion, hiring the family members, close relatives and friends to run and manage business is one of the greatest mistakes that most entrepreneurs make during transition of power within the business. Beaver and Jennings (2011) also affirm that recruitment of family members as workers in the business usually leads to unending disagreements and conflicts which in turn negatively impact the operations, management and success of the business. Mismanagement leads to poor relationships amongst employees within the company, thus further affecting organizational performance. Moreover, mismanagement also leads to poor inventory management. The company was not able to adequately manage and control its inventory or stock.
Thirdly, Smart-Lady Apparel failed as a result of misappropriation of the company’s funds by its chief executive officer, Mr. Peterson and his team of managers. The company did not have an appropriate budgetary planning and control mechanism as well as proven financial records. This led to numerous problems arising from mismanagement of financial resources, such as cash of the company. As reported by Marcketti (2010), mismanagement of financial resources is also a major cause of failure of most small businesses. According to Burney (2010), small businesses usually have limited access to capital and often make little or no profits, hence it is important to ensure that financial resources available to the company are well managed and properly utilized.
Fourthly, Smart-Lady Apparel failed due to persistent decline in unit sales. The decline in sales was caused by damaged reputation, poor public image and loss of faith in the company by the customers. Due to the numerous malpractices, negligence and unprofessional conducts of the company’s top management, most customers lost faith in the activities and products of Smart-Lady Apparel. The relations between the company and customers were also severely ruined by malpractices of the company management, such as great financial fraud of Mr. Peterson. Additionally, decline in sales volume was also caused by shift in business goals and strategies. When Mr. Peterson took over the management of the business in mid 2009, he shifted the focus of the company from customers to sales. The business became more focused on sales volume rather than provision of quality goods and services that would lead to satisfaction of customers. As a result, customers become dissatisfied and sought products and services from other businesses. Furthermore, various marketing strategies such as promotions that were used to attract customers were also wiped out. This further drove away the customers. As Kotler (2011) asserts, building and maintaining a huge pool of loyal customers is not an easy task, and it requires adequate focus on the needs of customers as well as deployment of appropriate marketing strategies, such as provision of after-sales services, free gifts, intensive advertising and listening to what customers say.
Small businesses are the backbone of many economies across the world. However, the major challenge is how to overcome the high rate of failure of these small enterprises. In my opinion, the failure of Smart-Lady Apparel could have been averted dealing with each of the factors that led to its failure separately and independently.
Firstly, the accounting fraud by Mr. Peterson could have been averted by ensuring that the business maintains updated financial records, such as statement of the cash flow, balance sheet and petty cash book to ensure that inflow and outflow of cash within the company are highly monitored and controlled. Moreover, I would also recommend that the company’s books of accounts should not be accessed by other employees in organization without prior permission from the finance officer or senior accountant. In addition, accounting or financial fraud can also be avoided by conducting regular audits in the books of accounts of the company to track the inflow and outflow of money within the company. Such audits should be conducted by highly professional and certified external auditors. Any loophole within the accounting system of the organization should also be blocked to prevent top managers from finding ways of conning the company. Maintenance of proper books of accounts would also help in preventing misappropriation and embezzlement of funds of the company by its top management.
Secondly, failure due to mismanagement could be avoided through strict selection of top managers for the company. During appointments and promotions within the company, an individual should be selected, appointed or promoted based on his or her competence, qualification, training and overall contribution to the company. In my view, appointments and promotions based on the factors such as family membership and friendship should be highly disregarded. This would help in separating business affairs and family or friendship affairs. In addition, recruitment of non-family members as employees of the company would also help in reducing potential disagreements and conflicts that may arise due to family issues and personal differences. In addition, mismanagement would also be averted through provision of adequate trainings to the employees. This would help in equipping employees with relevant knowledge, skills and techniques for managing the business. For example, through training the employees would be able to acquire new management techniques such as involvement of all workers in the affairs of the company and decision-making processes.
Thirdly, decline in sales volume would be prevented by focusing on the needs, wants and preferences of customers. The company should make sure that it provides high quality goods and services that adequately meet the needs of customers. This would result into high level of customer satisfaction. Consequently, a pool of highly loyal customers would be created and maintained. Hence, the sales volume would remain high. In addition, various marketing strategies, such as advertising, extensive and intensive distribution, publicity and personal selling would also be used to increase sales volume by attracting more customers.
Last but not least, sales volumes could also be increased by offering highly differentiated products to customers. Ireland (2007) asserts that product differentiation is a technique that involves production and marketing of goods and services that have unique features and cannot be easily copied by competitors. Product differentiation is usually used in highly competitive markets to distinguish products of a company from those of competitors’. It also helps in creating a unique brand image in the marketplace. In my view, the company should use the product differentiation at Smart-Lady Apparel to make a distinction between the clothes the company sells and clothes of its competitors, hence creating a pool of loyal customers. Consequently, sales volume would increase.
One of the current trends in the retail clothing industry for women is frequent changes in the design and style of women’s clothes. Most modern women prefer highly styled and fashioned clothes. In addition, the entire apparel industry is also characterized by up-to-the-minute designs and fashions. Thus, if a business is not able to provide goods and services that are highly fashioned, it risks being kicked out of the industry by other firms. Changes in the clothing designs and fashions often influence the consumers’ demands in the apparel industry. This also affects the types of goods and services provided to consumers by business entities.
Similarly, the apparel industry is also characterized by cutthroat competition amongst businesses. In my view, the presence of stiff competition or existence of other firms in the industry negatively affects customer loyalty because consumers have a variety to choose from. Hence, consumers can easily shift from one business to another.
Lastly, the entry of bigger firms that are well established, such as Ann Taylor Corporation, into the retail clothing industry also negatively affects the loyalty of customers amongst small businesses because such companies are able to sell their products directly to the customers at the factory price, which is much lower than the retail price. Thus, many consumers prefer to purchase clothes directly from these firms.
Summary and Conclusion
In my opinion, factors that lead to the failure of small businesses can be broadly categorized into two major groups: internal and external factors. Internal factors are factors within the organization, such as insufficient managerial expertise of the business owner, lack of adequate finances, mismanagement and fraudulent business practices that the entrepreneur can control and manage. On the other hand, external factors are issues such as competition, changes in consumer demands, tastes and preferences and legal requirements that may lead to the business failure. The entrepreneur usually lacks power or ability to control external factors. I would also state that although two or more businesses may operate in the same industry, they are likely to face different challenges, especially internal factors, which may lead to their failure. Therefore, every entrepreneur should scrutinize and carefully study his or her business in order to establish various factors that may lead to its failure, and formulate appropriate solutions and strategies for tackling the challenges.