By Proactively mitigating risk, a business entity would ensure its long-term success
by
Alex R. Gold
A Undergraduate Thesis
Submitted to the Department of Business
Carthage College, Kenosha, Wisconsin
In Fulfillment of the Requirements
For a Bachelor’s Degree of Arts
With a Major in Accounting
Submitted: Thursday December 1, 2022
Supervised by Professor Reginald Clyne
Contents — Chapters
Executive Summary
1. Introduction
a. How many small businesses are within the U.S.
2. Importance of Small Businesses
a. How important are small businesses to our economy
b. What it takes to start a small business
c. Risk taking propensity of entrepreneurs
3. What is a risk in a business
a. How many of those small businesses fail within the 1-5 years
b. Description of a risk in a business
4. Early Internal and External Risk Associated with the Startup Phase
a. Risk factors in the pre-startup phase
b. Mitigating the initial risk
c. What makes a Startup successful in the first three years
5. Established Businesses and the Threats they Face
a. Difference between a startup and established business
b. Supply Chain issues and Political regulations
c. Product innovation and small business growth - Stagnation
d. Financial reporting - Auditing - Fraud
6. Future planning for outlier and industry crisis
a. What are black swan events and how likely are they
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b. Remains of the last black swan event
c. Don't be afraid of risk or the fear of failure
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Executive Summary
Small businesses are the backbone of the United States economy, with over 32.5 million
small businesses comprising 99.9 percent of all businesses in the US (Moshin, 2022). A small
business in the United States is based on its size, revenue, and which industry it is listed in. The
U.S. Small Business Administration (SBA) defines a small business firm by revenue from 1 million
to 40 million, and employment from 100 to 1,500 employees, but the consensus from the SBA
as to what constitutes a small business for employees is fewer than 500 (Hait, 2021). As small
businesses employ roughly 60.6 million people which is 47.1 percent of the entire workforce
(deBara, 2021).
Now the first risk of a small business is deciding which sector to start in, and what are its
entry barriers and exit barriers. For instance, the Retail industry has the third highest number of
small businesses and employees from those businesses, with 5,526,296 workers (deBara 2021).
Since it is the third most popular choice that would mean it would have a lower entry barrier,
however, it also has the strongest competitors such as Amazon (online retail), Costco, Walmart,
and Target. Which increases the external threat of starting a business. Furthermore when it
comes to the titan that is Amazon they have a strong supply chain and integration, as well as
ease of access when it comes to their online retail.
However, this is not the only risk a small business has to watch out for, especially after
the first year. Financial risks where the business is not generating sufficient cash flow, the
business would then need to adhere to a strict budget and weigh options to jump start enough
cash flow to pay off debts (Gerdeman 2022). Then there are black swan events which fall
outside of regular expectations and carry severe impact; an example of this would be Covid-19.
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To prepare for this a small business could have looked at their predictive analytics and
understand which product generates the most revenue and capitalize off that (Bowman, 2022).
Finally, according to the GEM Global Report, more than 100 million startups are
launched every year and 90 percent of those fail. However, Djuradj Caranovic a keynote speaker
said, “If we fear failure we tend to take a minimalist approach to our jobs and the opportunities
around us. Sometimes failing spectacularly is the best evidence that we are alive, human, and
serious about aspiring to the extraordinary…(Leonard, 2018).
Introduction
Small businesses are the backbone of the United States economy, with over 32.5 million
small businesses comprising 99.9 percent of all businesses in the US (Moshin, 2022). A small
business in the United States is based on its size, revenue, and which industry it is listed in. The
U.S. Small Business Administration (SBA) defines a small business firm by revenue from 1 million
to 40 million, and employment from 100 to 1,500 employees, but the consensus from the SBA
as to what constitutes a small business for employees is fewer than 500 (Hait, 2021). As small
businesses employ roughly 60.6 million people which is 47.1 percent of the entire workforce is
on payroll (deBara, 2021).
Importance of Small Businesses
With the importance of small businesses that make up 99.9 percent of all U.S.
businesses and 99.7 percent of firms with paid employees, they comprise 62 percent of all
newly created jobs from 1995 to 2005 (Rowinski, 2022). Which is 12.7 million compared to what
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large enterprises created which was only 7.9 million. Small businesses also account for 44
percent of the U.S. economy, and without the support of small businesses the business world
would crash, and not only do small businesses support the overall economy. They also support
their local communities through taxes, paychecks, and donations (Rowinski, 2022).
Which small businesses donated more than 250 percent more than large enterprises
into nonprofit organizations, communities, and charities (Dougert, 2019). That being said 75
percent of small businesses owners give an average of 6 percent of their profit to charitable
organizations (Dougert, 2019). Looking at this from a risk perspective if a small business
happened to have unfavorable profits for the year, they could weigh in on donating to a charity.
Then using that to boost their branding and increase their goodwill. As of which 85 percent of
consumers have a more positive image of companies that give to charity, and 90 percent of
consumers want to know how and which charities companies are supporting (Dougert, 2019).
Another risk would be employee satisfaction and what to do. If employees are
unsatisfied, that could hurt the company’s reputation. However, a company could boost
employee satisfaction as well as increase their reputation by volunteering events.
Company-sponsored volunteering engages employees by producing employee satisfaction with
their employer by 93 percent. Improving employee leadership and broadening professional skill
sets by 92 percent. Boosting employee well-being by 77 percent and morale by 70 percent, and
strengthening camaraderie with colleagues by 64 percent (Dougert, 2019)A, but the biggest risk
is starting a business.
The biggest risk to a small business is the first step, starting from the ground up, but the
biggest mitigation to this risk is research and preparation. Research into the industry the
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business will take place in is critical. For example, the fastest declining industry in the U.S. is
Health and Welfare Funds. With a -35 percent revenue decrease from declining union
memberships and increasing healthcare premiums preventing stable growth (Industry market
research, reports, and Statistics, 2022). While on the flip side the fastest recovering industry is
Airport Operations, with a 66.1 percent increase in revenue growth. The Airport Operations
industry took Covid-19’s pandemic and used that to decrease operational cost and increase
operational efficiency (Industry market research, reports, and Statistics, 2022). Finally, the
industry with the least amount of risk is Medical and Recreational Marijuana Growing.
IBISWorld states that it is one of the fastest growing industries. However, the marijuana industry
has a high barrier to entry, operating primarily in cash, limited banking opportunities, and public
approval (Huumon, 2022).
The marijuana industry although has a high barrier to entry it also has a high reward.
With the legalization of cannabis continuing across the United States with 19 states legalizing it
for recreational use and 39 states for medical. The market recorded $21 billion in sales in 2021
and is projected to hit $70 billion by 2028 from just recreational usage (High risk high reward,
2022). As stated before, marijuana has a high barrier to entry and a high return, however the
usual start up cost for opening a dispensary is quite high. The cost of opening a cannabis
dispensary ranged from $150,000 to $2 million for the real estate. With around $250,000 in
staffing, $25,000 in advertising, and $5,000 for licensing (Cohen, 2022). The licensing fee is
different for each state and depending on the value of the operations which could range in
California from $4,000 to $120,000 (Cohen, 2022). To mitigate this risk, the owner could find
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investors or get a bank loan, although there are limited banking opportunities for the marijuana
industry.
While on average the initial startup cost for a small business would be $40,000. Taking
into account that online startups with no inventory would cost significantly less than $40,000,
and a retail store that would cost well over $40,000 (Pilon, 2022). To prepare for this take into
account all the start-up expenses that will occur. For example a retail store would need to add in
office space, equipment and supplies, licenses and permits, insurance, inventory, employee
salaries, market research, making a website and advertisement (U.S. Small Business
Administration [SBA], n.d.). The key is preparation with calculating expenses, estimating profits,
conducting a break-even analysis, securing loans, attracting investors, and saving money for
example with tax deductions.
Taking risks is one of many keys to a successful business, but which risk and mitigating
the negatives is crucial. In the same place as opening up a business in itself is a huge risk, the
entrepreneur risks financial well-being, career opportunities, family relations, and psychic
well-being (Brockhaus, 1980). A successful entrepreneur analyzes the risks associated with the
specific business proposal, but what motivates an entrepreneur, and which is a greater outlook,
the fear of failure or the need to succeed? In 1957 John William Atkinson, an expectancy
theorist, developed the Theory of Achievement Motivation. It is simplified into this equation, (Ts
= M × P × I). Sandra Graham states Atkinson’s equation where, “(Ts), is the tendency to
approach an achievement activity as a function of three factors: the motive for success (Ms),
the probability that one will be successful at the activity (Ps), and the incentive value of success
(Is)” (Graham, n.d.).
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In this equation (Ms) is the achievement motive, (according to Atkinson, this is a
relatively enduring personality trait to be learned early in life). Ps, is the probability of success,
which takes on a value from 0 to 1, with higher values attributed to a higher success rate. Lastly
(Is), represents the affective state (pride in accomplishment) and it is inversely related to
expectancy (1-Ps). Meaning that easier tasks elicit less pride than a harder task, which would be
less motivating (Graham, n.d.). In the probability of success it is predicted that a value above
0.50 (Ps) would result in greater performance level without the involvement of their motivation
for success or their fear of failure. However, people who have a higher motivation towards
achievement are more active to undertake a harder venture (in this case a business venture)
than those who are more afraid of failure (Brockhaus, 1980). In Bony Lee Anderson’s Fear of
Failure she states, “Atkinson stated that individuals with a high need for achievement have a
greater expectation of success than they have fear of failure. These people anticipate a feeling
of pride and accomplishment at the completion of the take…while low-need achievers avoid
challenging tasks because their fear of failure is greater” (Anderson, n.d.). Predicting that high
achievement people lean towards riskier tasks than those who are more inclined to listen to
their fear would lean towards an easier, less risky task. Through Atkinson’s model the ones with
the most success are the ones who overcome their fear of failure, through their desire to
succeed.
What is a Risk in a Business
However, these high achievers should not cut out failure altogether for failure is a
potential outcome. According to the U.S. Bureau of Labor Statistics nearly 1 in 5 U.S. businesses
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fail within the first year, and as of May 2022 there are 32.5 million small businesses in the U.S.,
some of which are bound to fail (Gustafson, 2022)B. With 32.5 million small businesses in the
U.S. and the reason why their business could fail could be for various reasons: financial
constraints, management, industry competitors/variance, workforce issues, and outlier events
(blackswan events). Besides these reasons that a business might go under another risk would be
where the business would start. For example Hawaii’s turnover rate for a small business in the
first year is 25.4 percent. Meaning that ~25 percent of businesses in Hawaii fail in that first year,
and after the 5th year it jumps up to 52.8 percent, and after 10 years 64.5%. While on the flip
side for the first year Washington state has the lowest turnover rate in the first year with 10.9
percent, but interestingly enough it has the highest for the 5th year mark and 10th year mark
with it being 59.6 percent and 81.7 percent. The key to this information is the best place to
choose where to set up, for instance Wisconsin has one of the lower turnover rates in the first
year being 17.7 percent. Then in the 5th year being in a moderate bracket with 48.5 percent and
after the 10th year having the lowest for the 50 states with 56.2 percent, as of May 2022
(Gustafson, 2022)B.
Then another factor to consider is the industry in which the business will start. As stated
before the marijuana industry has a high barrier to entry but also has a high rate of return rate.
For that position a SWOT analysis would be helpful. A SWOT analysis can help a business create
a market strategy and highlight what are the Strengths to focus on and the Weaknesses to
mitigate. With the Opportunities that are presented in the market and the Threats that oppose
the business. Strength and weaknesses are the internal factors while opportunities and threats
are external factors in a business. An example of a SWOT analysis would be;
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W
(Weaknesses)
O
(Opportunities)
●
Improper
●
Consumer taste
sales
Financial
●
Changing
Brand
statements
S
(Strengths)
●
●
High amount of
awareness
●
from celebrities
●
Recognition
from other
Banking
demographics
●
opportunities
●
Dealing only in
●
T
(Threats)
●
Changing
regulations
●
Push-back from
Changing
the older
regulations
community
Innovations
●
Competitors
cash
nations
Simple yet highly effective use of a SWOT analysis in determining the course of action to
mitigate the risk and weaknesses of opening a small business like this. However, there are
businesses that have a higher risk of failure after five years: Mining and oil gas extraction (58.6
percent of failure), Administrative and waste services (49.1 percent), Wholesale trade (47.5
percent), and Construction (41.4 percent) (Gustafson, 2022). Therefore going into any one of
these industries is highly volatile.
A risk by Merriam-Webster's is, “A possibility of loss or injury: someone or something
that creates or suggests a hazard” (Merriam-Webster, n.d.). Which when it pertains to a
business would be a “loss” or “hazard” in the ability of the business to continue operating. Then
a risk in regards to a business encompasses two categories - financial risk and business risk
(Peterdy, 2022). A financial risk is connected to the business’s/company’s leverage/solvency,
liquidity, and profitability. Leverage/solvency is the amount of debt an entity is using to finance
its assets and its returns. Liquidity is the efficiency an entity is readily available in turning its
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assets into cash. Profitability are ratios used to determine the entity’s profit over its operating
cost, sometimes called efficiency ratios. These are important to know in a business because it
shows investors and loan agents if the business is strong or weak. For the time being the focus is
on business risk, which is internal and external factors that create threats or “hazards” to a
business and its employees. That can cause the business to fail. External factors include
environment (macroeconomics), competitor businesses, and demand of the product. Internal
factors would include financial risk, human relations, and the product itself.
Early Internal and External Risk Associated with the Startup Phase
Some of the main external and internal risks as to why these businesses fail result from:
Cash flow problems, lack of demand for the product or service, lack of information on the
competition, regulations and legal hurdles (Gustafson, 2022). Cash flow problems are the
leading cause of business failure. The importance of managing money is critical and without the
knowledge to properly manage money in the business could lead to hesitation in the economy
and misjudging the direction of the market (Gustafson, 2022). Two ways to mitigate this risk in
the startup phase or the beginning of the first year is to hire an experienced Accountant or a
Financial analyst. Both can handle the financial analysis of money and see the direction the
company is headed and plan accordingly. The second way is to prepare enough cash before
setting up. While most successful business owners suggest saving up six months’ worth of
operating funds before opening (Indeed Editorial Team, 2021). Operating funds include daily
expenses the business would incur, from staff wages, inventory, rent, and other expenses.
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The second risk to look out for is the market demand for the product or service. For
instance the bookstore industry, since 2012 the bookstore industry has been declining at a
steady pace. Although analysts predict the market to rebound late 2022 and beyond, for a first
time small business owner this would not be a favorable industry to get into. According to CB
insights 35 percent of startups fail because they do not meet the market demand or people do
not want the product (Gustafson, 2022). As of now the demand for hard copy books is low, with
technology on the rise and the ease of access for the online books. This puts paperback books
on the decline, and from 2012 to 2021 the industry has seen a -42.37 percent decrease in
market size (Industry market research, reports, and Statistics, 2022). Looking at this analysis the
failure would be higher than an industry where there is a high demand for the product or
service, and an industry with high demand as mentioned previously Airport Operations and
Online gambling services. Online gambling has been on the rise from the ease of access to sites
and convenience. It has also increased with the popularity of Esports (Research, 2022).
The third reason as to why startups fail is because of the lack of information they have or
are unwilling to research and analyze the competition. It is essential to conduct research about
the market and of the competitors. This would help with filling the consumers’ needs and
obtain a profitable business. It is cited that 20 percent of startups fail because they lack the
information and knowledge about the market and their competitors (Gustafson, 2022). The
value of information about the industry is crucial as it will help with other entrants that are
competing for the consumer, and in a crowded field it will help the startup devise a plan to gain
the consumers attention (Gustafson, 2022). This type of research is called competitive research
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and these are four benefits of it according to Jaime Johnson that help mitigate the lack of
information.
Firstly, understanding the market, which can reveal upward and downward trends that
other businesses have undergone. As well as shine light on missed opportunities that other
businesses have failed to act upon. Second, improving the entrepreneurs’ marketing campaign
since this will help the consumer know the product or service the new business will provide. As
the research will look at other competitors and find which marketing strategies work and which
do not, the new business would build upon the competitors' positives and mitigate the
negatives that were researched. As stated by Johnson, “Competitive research helps you
understand why customers choose to buy from you or your competitors and how your
competition is marketing their products…This can help you improve your own marketing
programs” (Johnson, 2019). Thirdly, this will help in identifying market gaps, by analyzing
competitors strengths and weaknesses (Johnson, 2019).
Oftentimes there will be consumers not being served by the competitors and could be
capitalized on for the new startup that is coming into the market. Finally, it helps with planning
for the future. This will help in strategic planning which is used for planning for future events,
improving market strategies, and improving customer relations with the business. Moreover
this will help with understanding upcoming regulations that will hit the market, and by
researching how other businesses are going to handle and plan for this, the startup can better
prepare themselves.
Nonetheless these are only a handful of the initial risks a startup could incur. While there
are many more, these are the most common and the reason why most startups fail. As stated
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previously; cash flow problems account for 38 percent of failed businesses, 35 percent for lack
of demand for the product/service, and 20 percent for lack of information (Gustafson, 2022). To
mitigate these risks substantially increases the success rate of a startup making it past the first
year. Regardless, these are not the only threats these businesses face.
Established Businesses and the Threats they Face
Established businesses (can still be considered a small business) face the same
challenges as startups, but they have the experience to adjust their plans and course of action
to mitigate the risk. The biggest difference between a startup and an established business is
experience. As an established business (also known as a mature business) has already gone
through the mistakes startups usually undergo. They have the experience and leadership to
easily detect the previously mentioned risks. However, as an established business they face the
same risk as a startup would, but with an increase to what they could lose. As startups face the
same problems just on a much smaller scale. Such as established businesses employ more
people, create pensions for their employees, donate to charities, gather more investors, and
more financial capital is at risk. If the established business fails they risk losing all of that. Even
so an established business is more at risk for these problems: Supply chain issues, Political
regulations, Stagnation, and Fraud, and as seen these past few years supply chain issues have
been unprecedented.
What has caused the recent supply chain issue? This recent supply chain issue was
initially contributed by Covd-19, as the lockdown took place and labor shortages, shifts in
demand, and structural factors gained traction. Then the Russia-Ukraine conflict only enhanced
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the issues that plagued the business world. With both of these issues present, China has been
locked down affecting the supply chain issues in consumer goods, metals, food, chemicals, and
commodities (J.P.Morgan Chase, 2022). Then as noted by Lindsay Cates in the U.S. Chamber of
Commerce, “The Q4 2021 U.S. Chamber and Metlife Small Business Index, 61 percent of small
businesses have had their supply chains disrupted by the recent pandemic and worker
shortages, and as a result 63 percent have had to alter their supply chains” (Cates, 2022). The
supply chain is the foundation for economic growth, as societies with a highly developed supply
chain infrastructure can exchange raw materials and finished goods to the consumer cheaper
and quicker at a low cost (Council of Supply Chain Management Professionals, n.d.). The
disruption this creates carries with it external and internal risks. An external risk of this would
be when the business’s supplier goes bankrupt or increases their own price for the material. As
this would cause the business to increase their own product price and could potentially cut the
salaries of its employees or lay off to stay profitable. An internal risk would be towards the
businesses own manufacturing, if manufacturing stops or is reduced it would cause the same
effect as the business would not be as profitable since they are not selling as much anymore
(Lau, n.d.).
To mitigate the effect of this supply chain issue a business should always be prepared for
these types of circumstances. A common supply chain management strategy is to implement
the PPRR risk model, Prevention, Preparedness, Response, and Recovery. Prevention means to
take action to reduce the impact of an incident. Preparedness, create a plan in case of an
incident (in this case supply chain issues) to ensure effective protocols are taken. Response, to
contain or control the impacts of the incident. Recovery, take steps to resume operations as
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quickly as possible (Lau, n.d.). When establishing this plan continually checking it and measuring
its effectiveness will help ensure that the plan will be strong and successful when an incident
occurs.
Three other ways to prepare for a supply chain issue according to Grace Lau, would be to
identify backup suppliers and diversify your supply base. Compiling a list of suppliers and order
fulfillment companies for each point in the supply chain. There are five main points to a supply
chain flow: Raw materials, Supplier, Manufacturer, Distributor, Retailer, and Customer service
(Lau, n.d.)C. Having a backup for each of the areas is helpful as in the case of the recent supply
chain issues, the business would not be in a tight spot as they would have had backups if their
original vendor could not work. Then diversifying your supply base is the response to an
economic issue that arises in a location the right people would be in charge to fix the problem
(Lau, n.d.). Putting these into place would help mitigate the risk of the effects that the world
sees now.
The second way to prepare for a supply chain issue would be to build up inventory.
Having extra inventory will alleviate the severity of supply chain issues (Lau, n.d.). As the extra
inventory, parts, or raw materials will help the business continue until the issue is resolved, or
will give the business extra time to find substitutes to their suppliers and vendors. The final way
to prepare for a supply chain issue would be to audit the supply chain weak points (Lau, n.d.).
While auditing the supply chain, a business can highlight the weaknesses in their own chain,
and prepare accordingly. Not only is it crucial to do this, it will show information about the
vendors being used if they are at high risk of being susceptible to supply chain issues. Supply
chain issues are uncommon and unpredictable. However there are warning signs that can be
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read and be reacted upon. Preparing is key for an established business when faced with these
obstacles.
The second problem established businesses face are political regulations. Politics plays
an important role in the economy, as they are the ones who create laws and regulations on how
business operates, expands, or manufactures. For startups and established businesses the
importance of knowing the regulations and laws would prevent litigation and bankruptcy. Two
of the most prominent topics are increasing the minimum wage and inflation reduction act.
Both could either harm or help small or established businesses. The Biden administration
campaigned on increasing the minimum wage of $7.20 over a course of five years . They have
since raised the minimum wage for federal contractors from $7/hr to $15/hr through an
executive order (The White House, 2021). Introduced January 28th 2021, the Raise the Wage
Act of 2021 would increase the federal minimum wage for regular employees over a 5-year
period, for tipped employees, and for newly hired employees who are less than 20 years old.
With annual increases in the federal minimum wage for individuals with disabilities
(H.R.603 - 117th Congress, 2021). As of now with inflation in the U.S. and supply chain issues
this bill would damage small and established businesses that do not have the financing to meet
the demands. Increasing the minimum wage employers would have to lay off employees to
meet the requirements or raise their own price for their product or service. The consequences
of increasing the minimum wage from Isabel Soto quotes, “The Congressional Budget Office,
projected that an increase to a $15 minimum wage by 2025 could mean an average of 1.4
million jobs lost, a fall in business revenues leading to a $9 billion drop in real income, and
increase in the prices of goods and services across the economy” (Soto, 2021). Increasing the
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minimum wage will increase labor cost which will result in layoffs, expediting automation or
going out of business. As business owners have their labor cost increase by 100 percent their
options are limited to cutting hours, eliminating employees, automating, or shutting down.
The best way to mitigate this risk is to cut the cost of operating expenses, to increase
productivity, reduce waste, and reduce fraud. Decreasing operating cost is the strongest factor
in mitigating the risk of a federally mandated minimum wage increase. To decrease operating
cost a business owner could switch to a couple days of remote work to decrease overhead cost,
outsource certain operations - for example marketing or advertising, find different vendors that
will not decrease quality, and cut debt - paying off debt on time and paying off vendors early as
most will give a discount.
The second government policy that is affecting small businesses is the Inflation
Reduction Act of 2022. The Inflation Reduction Act was introduced to Congress September 27,
2021, to combat the rapid inflation that the U.S. has struggled with. Inflation is a necessity for a
growing economy only when it is a low amount. As inflation counter balances deflation and
both in moderation are beneficial to the economy, because inflation (in low amounts) according
to economist, helps the The Federal Reserve maximize employment and maintain price stability,
this amount of inflation (~2 percent) allows households and businesses to make financially
sound decisions on savings, investments, and loans (Tretina, 2022).
As for businesses they would be able to raise their price because of inflation, as well as
value the business higher, and debt would be cheaper as fixed rate mortgages would be easier
to pay off (Deczynski, 2021). Accordingly, a little inflation is beneficial and crucial for a growing
economy; on the contrary inflation today in the U.S. is at 8.2 percent (U.S. Inflation Calculator,
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2022)D. The Inflation Reduction Act of 2022 is supposed to counteract the current inflation the
U.S. sees now. It has since been passed and became a law (H.R.5367 - 117th Congress, 2022).
Many economists agree that this bill will not help inflation but only increase it. The
Wharton School of Business, a Private Ivy League University, estimates that the plan would have
no statistically significant effect on reducing inflation, now or in the future (Dublois & Ingram,
2022). On the contrary inflation would increase over the next two years. As this bill is taking
effect the middle class and small business owners are hit with the blunt of the price. As the bill
would impose billions of dollars in taxes on crude oil, that would increase the energy bill that
small businesses would primarily be affected by. They in turn would have to increase their own
price for their product or service to stay afloat, hurting their customers as well as they are the
ones having to pay for the increase in the businesses product. This legislation would also
generate roughly $79.6 billion to the Internal Revenue Service (IRS) for hiring more agents and
to increase tax enforcement (H.R.5367 - 117th Congress, 2022). Hayden Dublois and Jonathan
Ingram state that, “The Tax Foundation estimates that, if the legislation is passed, both long-run
GDP and wages would decline, while 30,000 full-time jobs would be lost” (Dublois & Ingram,
2022). According to the nonpartisan Joint Committee on Taxation, approximately 78 to 90
percent of $200 billion the IRS will collect will come from small businesses making less than
$200,000 per year (Marks, 2022).
With this increase spending from the government as mentioned before the working
class Americans and small businesses will be hit by the increase in taxes. Including those who
earn less than $10,000 per year, they will face a higher tax increase than millionaires under the
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new bill, and by the end of next year more than $16.5 billion would have been taxed from
families and businesses that earn less than $200,000 per year (Dublois & Ingram, 2022).
Then the Inflation Reduction Act raises the minimum corporate tax wage on companies
earning more than $1 billion per year and places an excise tax on stock buybacks. While this
applies to big corporations this has a direct effect on small businesses. As the increase in tax and
wages on corporations, they will have less money to use for investments and pay for the
products and services that are offered by small businesses (Marks, 2022). As the Inflation
Reduction Act rolls out it will not decrease inflation but increase expenses and tax rate on small
businesses that cannot handle the burden of the new price. In addition it will decrease
supply-side economics of corporations. “Supply-Side Economics is the theory that maintains
that increasing the supply of goods and services is the engine for economic growth. It advocates
tax cuts as a way to encourage job creation, business expansion, and entrepreneurial activity, as
well as decreasing the price of the product” (Harper, 2022)F. This was popularized by President
Reagan during his presidency as he was able to cut inflation down to 4 percent (Kenton, 2021).
Businesses face many risks from inflation, as cost goes up the purchasing power of the
customer goes down, increased supply chain issues as it creates a shortage of the cheapest
material to decrease the cost of goods, an increase in interest rates, and increased overhead
cost. To mitigate these risks a business first, can streamline and automate processes, which
means to examine the processes of a business and try to cut cost and time. Secondly a business
can analyze profit margins by re-evaluating costs and what margins are red flags that should be
brought down or increased as well as increase which product or service is generating the most
revenue and cut back on the product or service that brings in the least amount of revenue
21
(Bawden-Davis, 2022). Thirdly, cut expenses where excess it found, most notably administrative
expenses, salaries and wage expense, switch to straight-line depreciation amortization to
decrease depreciation expense. Finally a business can track where it's spending the most and
minimize that spending if possible. Tracking spending is crucial to staying on top of bills and
helps the owner stay involved in the finances to continue to stay within the budget that the
business should follow.
The third risk that businesses face is stagnation, which is when the condition of the
economy or business slows or experiences flat growth. Usually happening when a business has
become mature and proceeds to stop progressing with no desire to continue to grow, expand,
or develop new products or services. Stagnation can mean the death of a business. Especially
when the economy slows or comes to a grinding halt that can result in failure. Stagnation paired
with inflation creates stagflation, which is when higher consumer costs merge with rising
unemployment and little, if at all, any economic growth (Bundrick, 2022). Businesses are more
susceptible to stagflation in the mature phase of the business life cycle as innovation has
stopped and the business has found its target audience so it does not progress or advance into
the market anymore. At this point the business’s price will have decreased from the startup and
growth phases.
In times of stagflation the business has to become more than the owner. As
unemployment increases and inflation rises the necessity to grow is crucial to continue to build
up the economy and to keep a successful business in place. Innovation is an excellent way to
push forward in a small business that has matured and is facing stagflation either in product
innovation or innovating a new business model. In a recent journal from Harvard’s business
22
school, Michael Boyles accounts three importances of innovation, “Firstly, it allows for
adaptability…As innovation is often necessary for companies to adapt and overcome challenges
of change. Secondly, it fosters growth, as innovation is key to staying afloat in today's market.
Thirdly, it separates businesses from their competition” (Boyles, 2022).
Innovation is the biggest mitigation that a business can undertake when faced with
stagnation and inflation. As it will continue to push management of the business further and
stay competitive. As competition drives the economy as each business competes with each
other over customers.
The final risk that established businesses face deals with how they report their financial
statements. Correctly reporting the financials of a business is important because it allows
investors and management to track their profit and analyze struggling inflows and outflows. As
it shows how much money a business has on hand, how much it makes from its product or
services and how much it spends on expenses and liabilities. This reveals if the business is on
track to continue to grow or is headed towards instability. Incorrectly reporting the financials to
make the business seem they are doing better than they actually are is fraud, stealing from the
business as an employee is fraud. Being convicted of fraud carries significant consequences,
such as imprisonment, restitution, and customer approval of the business would diminish. Small
businesses and private companies are most susceptible to fraud where they rank the highest at
42 percent frequency compared to large corporations (Business Fraud Statistics, 2021). The
main kinds of fraud found in small businesses are: Corruption, Billing Scheme, and Skimming
(College of Business, n.d.).
23
Corruption deals with progressing with a deal that is a conflict of interest and bribery
(Smith & Howard, 2017). An example of corruption would be an abuse of power or benefits
gained for personal being and not for the business. Bribery is seen as offering or promising of
something to gain an advantage or influence. If unattended could result in the business going
under. To mitigate this risk the business should employ better internal controls, primarily
segregation of duties, where the same person for example cannot request a purchase order and
approve the purchase as well.
Red flag reporting states that “A billing scheme is a fraud in which an employee causes
the victim organization to issue fraudulent payments by submitting invoices for fictitious goods
or services, inflated invoices, or invoices for personal purchases” (Understand Billing Scheme
Frauds, 2018). A billing scheme can cost a business thousands of dollars in profits, and should
be carefully looked out for. A great way to mitigate this risk are segregation of duties,
authorization, and increased monitoring. These will increase the performance of internal
controls and allow for an improved flow in the workplace.
The last common fraud that occurs in a small business is skimming, and the Arizona
audit office classifies skimming as, “When cash receipts are stolen from an organization before
the cash is recorded in its accounting records” (Fraud Alert - Skimming, 2012). When it comes to
skimming the most common form is revenue skimming, where the employee accepts payment
from a customer and does not record the transaction and pockets the cash. The employees who
are most involved in this crime are those who deal with the customers. The way to mitigate this
risk is segregation of duties, where the same employee should not be allowed to handle the
invoice as well as handle the money. Another way is to reconcile the cash payments at the end
24
of each month to match up each inflow of cash and checks with the receipt to find and correct
any errors.
Future planning for outlier and industry crisis
As the business continues to grow and continues to innovate and prepare they will be
better off than those who stagnate and suffer from being unprepared. Always analyzing the
business’s outflows and inflows, re-evaluating budgets, and keeping a close eye on government
regulations and which way the economy is heading a business can mitigate the risk presented
beforehand. Then while the business looks ahead it can prepare for black swan events, which is
an irregularity that is monumental in consequences. According to Nassim Nicholas Taleb it has
three components first, “It is outside the realm of regular expectations because nothing in the
past can point to its possibility; it brings an extreme impact; and, despite its outlier status,
people are incline to come up with explanations for the event after the fact” (Ticker Tape
Editors, 2022). These events are abnormal and very rare, so predicting them is near impossible
until it already has happened. However, looking to the past and the trends that lead up to the
events businesses can better prepare themselves if they were to see the same issues arising.
The last black swan event was from Covid-19. Which forced many small businesses to
close and due to this closure many are in worse positions then they were in before the impact.
According to the U.S. Bureau of Labor Statistics, 2.5 million people are unable to work due to
the closure of small businesses from Covid-19 (U.S. Bureau of Labor Statistics, 2022)F. Down
from the start of the pandemic from roughly 50 million people to 2.5 million, Covid-19 not only
forced many small businesses to close it attributed to the supply chain shortage and to the
25
increase in inflation. Mitigating business risks is a continuous process with external and internal
factors and starting a business. Nonetheless, analyzing financial ratios, the economy, and
competitors will help mitigate risks that are external toward a small business. Increasing internal
controls will help prevent any fraud or coercion in a business, and always innovating will
continue to push the business forward, and most of all being prepared is the best mitigation to
these risks.
26
Appendix
A. Imagine provided from Betsy Dougert
that represents the correlation between
charitable works and the benefits that it
brings.
27
B. Provided by Katherine Gustafson that shows the Business Failure rate across the 50
states and D.C.
Business failure rate within 1
year
After 5 years
After 10 years
Hawaii
25.40%
52.80%
64.50%
D.C.
25.10%
56.20%
70.80%
Kansas
23.20%
58.00%
65.30%
Rhode Island
23.10%
52.30%
65.50%
Missouri
22.90%
55.20%
67.70%
New Hampshire
22.90%
53.50%
67.90%
Nebraska
22.60%
51.80%
60.50%
Wyoming
22.50%
52.50%
68.50%
Alabama
22.10%
49.20%
64.60%
New Mexico
22.00%
53.20%
69.60%
North Dakota
21.70%
48.10%
62.00%
Oregon
21.60%
41.80%
62.90%
Vermont
21.40%
50.50%
64.40%
Michigan
21.10%
48.30%
64.30%
New York
21.10%
52.80%
67.30%
Virginia
20.60%
50.80%
68.10%
New Jersey
20.40%
50.30%
69.40%
Georgia
20.30%
55.40%
65.80%
Louisiana
20.10%
47.30%
65.60%
Alaska
19.80%
50.30%
63.00%
Arkansas
19.80%
52.80%
71.10%
Nevada
19.80%
52.50%
66.60%
Florida
19.70%
50.60%
65.40%
Kentucky
19.70%
47.90%
58.50%
Tennessee
19.70%
48.70%
66.50%
Idaho
19.10%
45.70%
64.20%
West Virginia
19.10%
42.80%
62.90%
Montana
19.00%
43.60%
60.40%
State
28
South Dakota
19.00%
45.30%
60.60%
Connecticut
18.90%
54.80%
68.30%
Ohio
18.70%
49.70%
61.80%
Maryland
18.60%
51.40%
65.90%
Arizona
18.30%
50.20%
66.50%
Utah
18.30%
49.20%
63.40%
Texas
18.20%
48.80%
63.50%
Colorado
18.10%
48.50%
66.00%
Massachusetts
17.90%
45.10%
59.40%
Minnesota
17.90%
45.00%
61.70%
Oklahoma
17.90%
50.00%
65.90%
California
17.70%
47.30%
63.10%
Wisconsin
17.70%
48.50%
56.20%
Delaware
17.60%
53.40%
68.50%
South Carolina
17.60%
50.00%
65.70%
North Carolina
17.50%
48.40%
63.70%
Mississippi
17.40%
49.20%
63.80%
Maine
17.00%
46.60%
62.30%
Pennsylvania
16.70%
48.80%
68.30%
Indiana
16.40%
46.30%
63.50%
Iowa
16.40%
47.90%
57.30%
Illinois
15.30%
48.50%
64.90%
Washington
10.90%
59.60%
81.70%
19.53%
49.95%
65.01%
Average
29
C. Business failure rate provided by Katherine Gustafson, which shows the increase in
failure in small business during the first 10 years.
Time frame
Percentage of businesses that
fail
Within 1 year
18.40%
After 2 years
30.60%
After 3 years
37.90%
After 4 years
44.50%
After 5 years
49.70%
After 6 years
53.60%
After 7 years
56.80%
After 8 years
60.50%
After 9 years
63.40%
After 10 years
65.50%
D. Provided by Grace Lau, that shows the supply chain flow starting from raw materials and
ending with customer service.
30
E. Provided by the U.S. Inflation Calculator that shows the average inflation rate per month
starting from 2000 ending in 2022 October.
Year
Jan
Feb
Mar
Apr
May
Jun
Jul
Aug
Sep
Oct
Nov
Dec
Ave
2022
7.5
7.9
8.5
8.3
8.6
9.1
8.5
8.3
8.2
Avail.
Nov.
10
2021
1.4
1.7
2.6
4.2
5
5.4
5.4
5.3
5.4
6.2
6.8
7
4.7
2020
2.5
2.3
1.5
0.3
0.1
0.6
1
1.3
1.4
1.2
1.2
1.4
1.2
2019
1.6
1.5
1.9
2
1.8
1.6
1.8
1.7
1.7
1.8
2.1
2.3
1.8
2018
2.1
2.2
2.4
2.5
2.8
2.9
2.9
2.7
2.3
2.5
2.2
1.9
2.4
2017
2.5
2.7
2.4
2.2
1.9
1.6
1.7
1.9
2.2
2
2.2
2.1
2.1
2016
1.4
1
0.9
1.1
1
1
0.8
1.1
1.5
1.6
1.7
2.1
1.3
2015
-0.1
0
-0.1
-0.2
0
0.1
0.2
0.2
0
0.2
0.5
0.7
0.1
2014
1.6
1.1
1.5
2
2.1
2.1
2
1.7
1.7
1.7
1.3
0.8
1.6
2013
1.6
2
1.5
1.1
1.4
1.8
2
1.5
1.2
1
1.2
1.5
1.5
2012
2.9
2.9
2.7
2.3
1.7
1.7
1.4
1.7
2
2.2
1.8
1.7
2.1
2011
1.6
2.1
2.7
3.2
3.6
3.6
3.6
3.8
3.9
3.5
3.4
3
3.2
2010
2.6
2.1
2.3
2.2
2
1.1
1.2
1.1
1.1
1.2
1.1
1.5
1.6
2009
0
0.2
-0.4
-0.7
-1.3
-1.4
-2.1
-1.5
-1.3
-0.2
1.8
2.7
-0.4
2008
4.3
4
4
3.9
4.2
5
5.6
5.4
4.9
3.7
1.1
0.1
3.8
2007
2.1
2.4
2.8
2.6
2.7
2.7
2.4
2
2.8
3.5
4.3
4.1
2.8
2006
4
3.6
3.4
3.5
4.2
4.3
4.1
3.8
2.1
1.3
2
2.5
3.2
2005
3
3
3.1
3.5
2.8
2.5
3.2
3.6
4.7
4.3
3.5
3.4
3.4
2004
1.9
1.7
1.7
2.3
3.1
3.3
3
2.7
2.5
3.2
3.5
3.3
2.7
2003
2.6
3
3
2.2
2.1
2.1
2.1
2.2
2.3
2
1.8
1.9
2.3
2002
1.1
1.1
1.5
1.6
1.2
1.1
1.5
1.8
1.5
2
2.2
2.4
1.6
2001
3.7
3.5
2.9
3.3
3.6
3.2
2.7
2.7
2.6
2.1
1.9
1.6
2.8
2000
2.7
3.2
3.8
3.1
3.2
3.7
3.7
3.4
3.5
3.4
3.4
3.4
3.4
31
F. Supply Side economics popularized by President Reagan that theorizes the increase in
supply would decrease product price and increase economic growth. Graphs provided by
David R. Harper.
32
33
G. Provided by the U.S. Bureau of Labor Statistics, which shows how many U.S. citizens
have been unable to
work since Covid-19.
34
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