Read Chapter 5 - Small Business, Entrepreneurship, and Franchises
Read Chapter 5 - Small Business, Entrereneurship and Franchises
Brief Summary of Chapter 5
SMALL BUSINESS: A PROFILE. According to the Small Business Administration (SBA), a small business is “one which is independently owned and operated for profit and is not dominant in its field.” Table 5-1 provides the SBA small-business size standards for various industries. The SBA periodically revises and simplifies its small-business size regulations. Most small firms have annual sales well below the maximum limits in the SBA guidelines.
The Small-Business Sector. In the United States, it typically takes less than a week and $600 to establish a business as a legal entity. There are about 28.8 million businesses in this country. Approximately 18,600 of these employ more than 500 workers. According to a recent study, 80 percent of new businesses survive at least two years, about 50 percent survive at least five years, and 33 percent survive at least 10 years. The primary reason for these failures is mismanagement resulting from a lack of business know-how.
Industries That Attract Small Businesses. Small enterprise ranges from corner newspaper vending to the development of optical fibers. The following industries are dominated by small businesses:
- Real estate, rental, and leasing: 74 percent
- Leisure and hospitality services: 61 percent
- Construction: 86 percent
The various kinds of businesses are generally grouped into three broad categories:
Distribution Industries. This category includes retailing, wholesaling, transportation, and communications—industries that are concerned with the movement of goods from producers to consumers—and it accounts for about 33 percent of all small businesses.
Service Industries. This category accounts for about 48 percent of all small businesses. Of these, about 75 percent provide nonfinancial services, and about 8 percent offer financial services. An increasing number of self-employed Americans are running service businesses from home.
Production Industries. This category includes the construction, mining, and manufacturing industries. It accounts for about 19 percent of all small businesses.
The People in Small Businesses: The Entrepreneurs. The United States is quite entrepreneurial when compared with other countries. Small businesses are typically managed by the people who started and own them. More than 70 percent of Americans would prefer being an entrepreneur to working for someone else. This compares with 46 percent of adults in Western Europe and 58 percent of adults in Canada.
Characteristics of Entrepreneurs. Entrepreneurial spirit is the desire to create a new business.
Other Personal Factors. The following personal factors contribute to small-business success:
Independence.
A desire to determine one’s own destiny.
A willingness to find and accept a challenge.
Family background.
More than 70 percent of people who start their own businesses are between 25 and 44 years old. (See Figure 5-1.)
The motivation to start a business may come from losing a job, having an idea for a new product, or as a result of commercializing a hobby.
Women as Small-Business Owners
Women make up 51 percent of the U.S. population. According to the SBA, women owned at least 36 percent of all small businesses.
Women own 66 percent of the home-based businesses in the United States, and the number of men in home-based businesses is growing rapidly.
About 9.9 million women-owned businesses in the United States provide almost 8.8 million jobs and generate $1.4 trillion in sales.
Women-owned businesses have proven that they are more successful.
They are financially sound, and their risk of failure is lower than average.
Compared to other working women, self-employed women are older, better educated, and have more managerial experience.
Just over half of small businesses are home based, and 91 percent have no employees.
Teenagers as Small-Business Owners. High-tech teen entrepreneurship is definitely exploding.
Young entrepreneurs must juggle school, their social life, and a high-tech workload.
Knowledge and ability—especially management ability—are probably the most important factors involved.
Immigrants as Entrepreneurs. Entrepreneurship has been growing among immigrants. The percentage of persons born abroad who were self-employed increased from 5.9 percent in 1994 to 6.5 percent in 2015.
Why Some Entrepreneurs and Small Businesses Fail. Small businesses are prone to failure. Capital, management, and planning are the key ingredients in the survival of a small business.
Small businesses can experience a number of money-related problems, such as insufficient capital for start-up and continuous cash flow obstacles.
Money, time, personnel, and inventory need to be effectively managed if a small business is to succeed.
Success and expansion sometimes lead to problems. The entrepreneur must plan carefully and adjust to potentially new and disruptive situations.
THE IMPORTANCE OF SMALL BUSINESSES IN OUR ECONOMY
Providing Technical Innovation. Studies show that the incidence of innovation among small-business workers is significantly higher than among workers in large businesses. Small firms produce two and a half times as many innovations as large firms relative to the number of persons employed. Small firms employ 37 percent of all high-tech workers and produce 16 to 17 more patents per employee than large patenting firms.
Providing Employment. Small businesses represent 99.9 percent of all employers, employ over one-half of the private workforce, and provide about two-thirds of the net new jobs added to our economy.
Providing Competition. Small businesses challenge larger, established firms in many ways, prompting them to become more efficient and more responsive to consumer needs.
Filling Needs of Society and Other Businesses. Many large firms may be unwilling or unable to meet the special needs of smaller groups of consumers. Such groups create almost perfect markets for small companies. Small firms also provide a variety of goods and services to one another and to much larger firms.
THE PROS AND CONS OF SMALLNESS. For many small-business owners, the advantages of remaining small far outweigh the disadvantages.
Advantages of Small Business
Personal Relationships with Customers and Employees. The owners of retail shops get to know many of their customers by name and deal with them on a personal basis. Through such relationships, small-business owners often become involved in social, cultural, and political affairs within the community. The personal service offered to customers is a major competitive weapon of small businesses.
Ability to Adapt to Change. As his or her own boss, the owner-manager of a small business does not need anyone’s permission to adapt to change. Through customer relationships, owners are made aware of changes in people’s needs as well as the activities of competitors.
Simplified Record Keeping. Many small firms need to keep only a simple set of records.
Small-business owners don’t have to punch in and out, bid for vacation times, take orders from superiors, or worry about being fired or laid off.
Other Advantages. Small-business owners also enjoy a number of the advantages of sole proprietorship, which were discussed in Chapter 4.
Disadvantages of Small Business
Risk of Failure. About 50 percent of small firms close their doors within the first five years.
Limited Potential. Many small firms are simply the means of making a living for the owner and his or her family. Such businesses are unlikely to grow much. Also, employees have limited opportunity for advancement.
Limited Ability to Raise Capital. Small businesses typically have a limited ability to obtain capital. As shown in Figure 5-2, most small-business financing comes out of the owner’s pocket.
The Importance of a Business Plan. A business plan is a carefully constructed guide for the person starting a business. Potential investors examine the business plan to determine if they would like to invest in or help finance a new venture
Components of a Business Plan
The business plan should be easy to read, uncluttered, and complete. (See Table 5-3 for the components of a business plan.)
The plan should answer the following four questions:
What exactly are the nature and mission of the new venture?
Why is this new enterprise a good idea?
What are the businessperson’s goals?
How much will the new venture cost?
THE SMALL BUSINESS ADMINISTRATION. The Small Business Administration (SBA), created by Congress in 1953, is a governmental agency that assists, counsels, and protects the interests of small businesses in the United States. It helps people get into business and stay in business. The agency provides assistance to owners and managers of prospective, new, and established small businesses.
SBA Management Assistance. The SBA places special emphasis on improving the management ability of the owners and managers of small businesses. Recently, the SBA indicated that it provided management and technical assistance to nearly 1 million small businesses through its 900 Small Business Development Centers and 11,000 volunteers from the Service Corps of Retired Executives. In 2017 the SBA launched its Emerging Leaders Program in 48 cities.
Management Courses and Workshops. The management courses offered by the SBA cover all the functions, duties, and roles of managers. The Small Business Training Network is an online training network consisting of 23 courses, workshops, and resources.
The Service Corps of Retired Executives (SCORE) is a group of more than 11,000 retired businesspeople who volunteer their services to small businesses through the SBA. A small-business owner can request free counseling from SCORE. In 2014, volunteers donated more than 1.2 million hours to assist small businesses. Recently, they mentored 124,600 small business owners and entrepreneurs.
Help for Minority-Owned Small Businesses. The SBA makes a special effort to assist those minorities who want to start small businesses or expand existing ones. The Minority Business Development Agency awards grants to develop and increase business opportunities for members of racial and ethnic minorities. Helping women become entrepreneurs is also a special goal of the SBA.
Small-Business Institutes. A small-business institute (SBI) is a group of senior and graduate students in business administration who provide management counseling to small businesses. SBIs have been set up on more than 520 college campuses.
Small-Business Development Centers. A small-business development center (SBDC) is a university-based group that provides individual counseling and practical training to owners of small businesses. In 2017, there were over 900 SBDC locations, primarily at colleges and universities, assisting small businesses.
SBA Publications. The SBA issues management, marketing, and technical publications dealing with hundreds of topics of interest to present to prospective managers of small firms.
SBA Financial Assistance. The SBA offers special financial assistance programs that cover a variety of situations. For example, in early 2013, the SBA guaranteed over $1 billion in loans to businesses, homeowners, and renters impacted by Hurricane Sandy. The following year it approved $2.4 billion in low-interest disaster loans. However, its primary function is to guarantee loans to eligible businesses.
Regular Business Loans. Most of the SBA’s business loans are actually made by private lenders such as banks, but repayment is partially guaranteed by the agency. The average size of an SBA-guaranteed business loan is about $300,000 for an average duration of about eight years.
Small-Business Investment Companies. Venture capital is money invested in small and sometimes struggling firms that have the potential to become very successful. To help such companies, the SBA licenses, regulates, and provides financial assistance to small-business investment companies (SBICs), which are privately owned firms that provide venture capital to small enterprises that meet their investment standards. SBICs are intended to be profit-making organizations. However, SBA aid allows them to invest in small businesses that would not otherwise attract venture capital.
A franchise is a license to operate an individually owned business as though it were part of a chain of outlets or stores. Often, the business itself is also called a franchise.
What Is Franchising?
Franchising is the actual granting of a franchise.
The franchisor is an individual or organization granting a franchise.
The franchisee is a person or organization purchasing a franchise. Table 5-4 lists some items that would be covered in a typical franchise agreement.
Types of Franchising. Franchising arrangements fall into three categories.
A manufacturer authorizes a number of retail stores to sell a certain brand-name item.
A producer licenses distributors to sell a given product to retailers.
The franchisor supplies brand names, techniques, or other services, instead of a complete product. The franchisor’s primary responsibility is the careful development and control of marketing strategies.
The Growth of Franchising. Franchising has experienced enormous growth since the mid-1970s. This growth has generally paralleled the expansion of the fast-food industry. Franchising is attracting more minorities and women business owners than ever before.
Dual-branded franchises, in which two small franchisors offer their products together, are a new small-business trend.
Are Franchises Successful?
The success rate for businesses owned and operated by franchisees is significantly higher than the success rate for other independently owned small businesses.
Franchising, however, is not a guarantee of success for either franchisees or franchisors.
Advantages of Franchising
To the Franchisor
The franchisor gains fast and well-controlled distribution of its products without incurring the high cost of constructing and operating its own outlets.
The franchisor benefits from the fact that the franchisee, usually a sole proprietor, is highly motivated to succeed. The success of the franchise means more sales, which translate into higher royalties for the franchisor.
To the Franchisee
The franchisee gets the opportunity to start a business with limited capital and to make use of the business experience of others. If business problems arise, the franchisor gives the franchisee guidance and advice.
The franchisee receives materials to use in local advertising and can take part in national promotional campaigns sponsored by the franchisor.
Disadvantages of Franchising. The disadvantages of franchising mainly affect the franchisee, because the franchisor retains a great deal of control. The franchisor’s contract can dictate every aspect of the business.
Conflicts between franchisees and franchisors are not uncommon. Contract disputes have been the cause of many lawsuits. The National Franchise Mediation Program was established in 1993 to try to arbitrate these types of disputes. Some franchisees have begun demanding government regulation of franchising.
Franchise holders typically pay a one-time franchise fee plus continuing royalty and advertising fees collected as a percentage of sales.
Franchise operators must work hard, often putting in 10- and 12-hour days, six days a week.
Sometimes a franchise is so successful that the franchisor opens its own outlet nearby, in direct competition.
The International Franchise Association advises prospective franchise purchasers to investigate before investing and to exercise caution before buying.
Global Perspectives in Small Business
For American small businesses, the world is becoming smaller.
The SBA offers help to the nation’s small-business owners who want to enter the world markets.
International trade will become more important to small-business owners as they face unique challenges in the new century.