A small business is a business that is privately owned and operated, with a small number of employees and relatively low volume of sales. Small businesses are normally privately owned corporations, partnerships, or sole proprietorships. The legal definition of "small" varies historically, by country and by industry, but generally has fewer than 100 employees in the United States and under 50 employees in the European Union. However, in Australia, a small business is defined by the Fair Work Act 2009 as one with fewer than 15 employees. By comparison, a medium sized business or mid-sized business has under 500 employees in the US, 250 in the European Union and fewer than 200 in Australia.
In addition to number of employees, other methods used to classify small companies include annual sales (turnover), value of assets and net profit (balance sheet), alone or in a mixed definition. These criteria are followed by the European Union, for instance (headcount, turnover and balance sheet totals). Small businesses are usually not dominant in their field of operation.
Small businesses are common in many countries, depending on the economic system in operation. Typical examples include: convenience stores, other small shops (such as a bakery or delicatessen), hairdressers, tradesmen, lawyers, accountants, restaurants, guest houses, photographers, small-scale manufacturing etc.
The smallest businesses, often located in private homes, are called microbusinesses (term used by international organizations such as the World Bank and the International Finance Corporation) or SoHos. The term "mom and pop business" is a common colloquial expression for a single-family operated business with few (or no) employees other than the owners. When judged by the number of employees, the American and the European definitions are the same: under 10 employees.
Advantages of small business
A small business can be started at a very low cost and on a part-time basis. Small business is also well suited to internet marketing because it can easily serve specialized niches, something that would have been more difficult prior to the internet revolution which began in the late 1990s. Adapting to change is crucial in business and particularly small business; not being tied to any bureaucratic inertia, it is typically easier to respond to the marketplace quickly. Small business proprietors tend to be intimate with their customers and clients which results in greater accountability and maturity.
Independence is another advantage of owning a small business. One survey of small business owners showed that 38% of those who left their jobs at other companies said their main reason for leaving was that they wanted to be their own bosses. Freedom to operate independently is a reward for small business owners. In addition, many people desire to make their own decisions, take their own risks, and reap the rewards of their efforts. Small business owners have the satisfaction of making their own decisions within the constraints imposed by economic and other environmental factors. However, entrepreneurs have to work very long hours and understand that ultimately their customers are their bosses.
Several organizations also provide help for the small business sector, such as the Internal Revenue Service's Small Business and Self-Employed One-Stop Resource.
Problems faced by small businesses
Small businesses often face a variety of problems related to their size. A frequent cause of bankruptcy is undercapitalization. This is often a result of poor planning rather than economic conditions - it is common rule of thumb that the entrepreneur should have access to a sum of money at least equal to the projected revenue for the first year of business in addition to his anticipated expenses. For example, if the prospective owner thinks that he will generate $100,000 in revenues in the first year with $150,000 in start-up expenses, then he should have no less than $250,000 available. Failure to provide this level of funding for the company could leave the owner liable for all of the company's debt should he end up in bankruptcy court, under the theory of undercapitalization.
In addition to ensuring that the business has enough capital, the small business owner must also be mindful of contribution margin (sales minus variable costs). To break even, the business must be able to reach a level of sales where the contribution margin equals fixed costs. When they first start out, many small business owners underprice their products to a point where even at their maximum capacity, it would be impossible to break even. Cost controls or price increases often resolve this problem.
In the United States, some of the largest concerns of small business owners are insurance costs (such as liability and health), rising energy costs and taxes. In the United Kingdom and Australia, small business owners tend to be more concerned with excessive governmental red tape.
Another problem for many small businesses is termed the 'Entrepreneurial Myth' or E-Myth. The mythic assumption is that an expert in a given technical field will also be expert at running that kind of business. Additional business management skills are needed to keep a business running smoothly.
Marketing the small business
Common marketing techniques for small business include networking, word of mouth, customer referrals, yellow pages directories, television, radio, outdoor (roadside billboards), print, email marketing, and internet. Electronic media like TV can be quite expensive and is normally intended to create awareness of a product or service.
Many small business owners find internet marketing more affordable. Google AdWords and Yahoo! Search Marketing are two popular options of getting small business products or services in front of motivated Web searchers. Advertising on niche sites can also be effective, but with the long tail of the internet, it can be time intensive to advertise on enough sites to garner an effective reach.
Franchise businesses
Franchising is a way for small business owners to benefit from the economies of scale of the big corporation (franchisor). McDonald's restaurants, TrueValue hardware stores, and NAPA Auto Parts stores are examples of a franchise. The small business owner can leverage a strong brand name and purchasing power of the larger company while keeping their own investment affordable. However, some franchisees conclude that they suffer the "worst of both worlds" feeling they are too restricted by corporate mandates and lack true independence. However, in some chains, such as the aforementioned TrueValue and NAPA, franchises may have their own name alongside the franchise's name.
Small business bankruptcy
When small business fails, the owner may file bankruptcy. In most cases this can be handled through a personal bankruptcy filing. Corporations can file bankruptcy, but if it is out of business and valuable corporate assets are likely to be repossessed by secured creditors there is little advantage to going to the expense of a corporate bankruptcy. Many states offer exemptions for small business assets so they can continue to operate during and after personal bankruptcy. However, corporate assets are normally not exempt, hence it may be more difficult to continue operating an incorporated business if the owner files bankruptcy.
Certification and trust
Building trust with new customers can be a difficult task for a new and establishing business. Some organizations like the Better Business Bureau and the International Charter now offer Small Business Certification, which certifies the quality of the services and goods produced and can encourage new and larger customers. These services may require a few hours of work, but a certification may reassure potential customers. However, the most effective way to earn trust is through customer referrals.
Contribution to the economy
In the US, small business (less than 500 employees) accounts for around half the GDP and more than half the employment. Regarding small business, the top job provider is those with less than 10 employees, and those with 10 or more but less than 20 employees comes in as the second, and those with 20 or more but less than 100 employees comes in as the third (interpolation of data from the following references). The most recent data shows firms with less than 20 employees account for slightly more than 18% of the employment.
Of the 5,369,068 employer firms in 1995, 78.8 percent had fewer than 10 employees, and 99.7 percent had fewer than 500 employees.
Sources of funding
Small businesses use several sources available for start-up capital:
- Self-financing by the owner through cash, equity loan on his or her home, and or other assets.
- Loans from friends or relatives
- Personal Savings
- Private stock issue
- Forming partnerships
- Angel Investors
- Banks
- SME finance, including Collateral based lending and Venture capital, given sufficiently sound business venture plans
Some small businesses are further financed through credit card debt - usually a poor choice, given that the interest rate on credit cards is often several times the rate that would be paid on a line of credit or bank loan. Many owners seek a bank loan in the name of their business, however banks will usually insist on a personal guarantee by the business owner. In
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