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Failure Rates

October 4, 2006

Q- I am considering starting a business but am hesitant as I have heard that the failure rate is between 80 and 90%. In terms of starting a business, I would like to see success rates greater than 10 or 20%. Are these statistics valid and what can I do to increase my chances of success?

I have no idea where this information came from, but a number of studies have shown very different results. A study documented in Small Business Economics by Brian Headd showed that 66% of startups lasted two years and 50% lasted 4 years. Moreover, these statistics are not unique to this study. Many others have shown similar results. Translation: hard data has shown that the success rate of small firms is around 50%, not the cited 10 or 20%. And, in actuality, I believe that the success rate is even higher.

In many of these studies, small businesses are defined as "failures" if they are no longer in existence. The reasons behind the business' closing are not taken into account. Therefore, if a person starts a business and successfully operates it only to decide that entrepreneurship is not for them, the business is automatically considered a failure. However, in my mind, a voluntary closure of a successful business is certainly not a failure.

Headd's study addressed this issue and found that approximately 17% of the "failed" businesses were actually successful. Once this figure was added to the original statistic, the rate of success rose to 67% meaning that two out of every three startup businesses were successful in their venture. These findings more closely match my experience and show a level of risk that is tolerable for most people.

Headd's study also examined the empirical factors that determined a business' success. The three most important factors were identified. At the top of the list was having a starting capital that exceeded $50,000. Adequate capital is a critical factor in starting a business. Having startup capital of $50,000 or more gives the entrepreneur enough cash to weather some of the inevitable variability of the new business cash flows.

Having a college degree was identified as the second most important factor. While a college degree does not necessarily teach a person how to run a small business (unless the degree is in entrepreneurship), it does help by equipping the individual with both persistence and ability for critical thinking. Finally, Headd's study showed that successful businesses were started for personal, rather than financial, reasons. Having a passion for the business is so critical to its success.

To summarize, Headd's study showed that two out of every three startup businesses are successful and that this success is linked to three critical factors. When starting a small business, the odds are in your favor if you have capital that exceeds $50,000, a college degree, and a personal interest in the business.

Thanks for asking some great questions.