By: Lorra Brown
The key to success as a small business entrepreneur is optimizing the right mix of risk and reward. It’s possible to grow your business slowly and incrementally by minimizing the amount of risk you take, of course, but if you would like to take your business to the next level, you will need to start taking some calculated risks. There are three smart financial risks that every entrepreneur must consider sooner or later…
Risk #1: Taking on debt to grow an existing business more rapidly
There are plenty of good reasons why you might want to take on debt as an entrepreneur. Sometimes, you will need a bank loan or some other form of third-party debt financing to grow your business. For example, you might need a bank loan to afford expensive new capital equipment. Or you might need a source of financing to help patch over an interim cash flow deficit caused by a mismatch of accounts payable and accounts receivable.
It’s important to view any new decision to take on debt as a classic risk-reward trade-off. The reward, of course, is that you can expand much more rapidly than if you were simply funding yourself via cash flow from operations. The risk, though, is that you are burdening your company with potentially onerous principal and interest payments. Some forms of financing (e.g. equipment loans) require collateral, too, so you are potentially putting your daily operations at risk if you are unable to make your payments on time.
Risk #2: Expanding into a new product category
It’s a classic scenario: a small business decides to prepare for the next wave of growth by expanding into a new product category or extending a product line. Some moves are riskier than others, depending on how complementary they are to the overall business. One mistake that entrepreneurs make is assuming that, just because they were phenomenally successful with Product A, they will be phenomenally successful with Product B.
One way to mitigate this financial risk is by working with a financial advisory firm on a business plan. You can create a business plan for a new product extension, just like you would for a new company. As part of this plan, you would include information about the expected size of the new market opportunity, and how long it will take you to break even. In a best-case scenario, profits from your very successful Product A can be used to subsidize the early losses from the introduction of Product B.
Risk #3: Expanding into an entirely new market
Deciding to expand into an entirely new market is far riskier than just expanding your existing product range. In some cases, it requires an entirely new way of thinking about your business. For example, you can think about expanding into a new geographic market. And you can also think about expanding into new demographic markets (e.g. adding a new kid’s line of clothing to an existing fashion brand).
The bigger your company gets, the bigger each new market expansion opportunity becomes. Think of Amazon.com – the company went from selling books and movies online to selling just about everything online. Then, the company went from selling items to customers in the United States to selling items to customers all over the world. Now, Amazon is buying up entirely new companies – like Whole Foods Market – as part of yet another reinvention of the company.
As an entrepreneur, you are in the business of taking risks. Starting your company was probably the first real financial risk you took. Now that you are looking for new ways to grow your business, you will need to consider other smart financial risks. Just remember to manage the relationship between risk and reward, and you’ll pave the way for the future success of your small business.
Lorra Brown is the CEO of LBE Consulting, PLLC based in Grand Prairie,TX. Lorra is a multifaceted business strategist that works with a plethora of clients around the country. She provides accounting services and business consulting to a diverse bed of self employed professionals. Her life’s mission is to help women gain empowerment and change their mindset about their finances.
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