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Risky business: 44% of small firms reach Year 4

While some two-thirds of small firms make it past the two-year mark, just 44 percent can hack it for four years, according to the latest data from the Bureau of Labor Statistics.
/ Source: Forbes

The numbers aren't pretty.

While some two-thirds of small firms make it past the two-year mark, just 44 percent can hack it for four years, according to the latest data from the Bureau of Labor Statistics. And by "hack it," we're just talking survival rates here: Plenty of those "survivors" are choking down ramen noodles to keep the lights on.

If those odds don't scare you off, consider too that some industries may be inherently tougher to crack than others. Your friends might think that you rival Mario Batali in the kitchen, or that you can go sole for sole with the likes of Kenneth Cole. But the sober truth is that it takes more than talent to run a restaurant, a clothing boutique and a host of other ventures. Sadly, some of the most enticing industries are also the riskiest.

Good data on business failures are hard to find. At first blush, BLS figures suggest that failure rates are consistent across industries. Yet those industry groupings are very broad, capturing the entire universe of small companies in just 10 general buckets. For example, restaurants are lumped into the larger "leisure and hospitality" bucket, including more stable outfits like hotels. Some economists chalk up failure rates to other factors, such as location, the experience level of management teams and whether companies are able to nab venture funding.

But a closer look by the folks at Fair Isaac, a business research firm and father of the FICO credit score, suggests that some industries are indeed riskier than others.

To assess an industry's inherent risk, Fair Isaac collected reams of financial data from various internal and other proprietary sources, including credit-tracking agencies such as Dun & Bradstreet and Equifax. "The weird thing about industry classification is that, depending on the sources we look at, there are varying rates of risk," says Cordell Wise, a Fair Isaac product manager.

To be sure, choice of industry is not the only predictor of a startup's chances for success. Fair Isaac weighs up to 20 variables when modeling a small fry's risk profile. After a business has been up and running for more than two years, Fair Isaac drops the industry variable from its risk model altogether; at that point, things like cash flow and debt load become more critical factors.

Still, out of a universe of 89 industries (still somewhat broad, but a lot better than the BLS classifications), 10 stood out as the riskiest. Five of them follow.

Take vehicles for hire. All operators pay high insurance premiums, suffer during oil spikes and have tons of competition. And each mode of transportation has its own risks too. In New York City, where the number of taxis has been fixed since 1937, the price of a taxi license is upward of $400,000 — a stiff entry price to do battle, even in a $1.8 billion market. Then you have to find trustworthy drivers to pull in revenue — unless you enjoy working grueling 10-plus-hour shifts yourself. As for liveries, their welfare depends on connections with local hotels and businesses. Network poorly and you're done.

Clothing retailers don't have it much easier. Last year's bubble skirts might have looked great on you, but your customers may not have found them so flattering. Retail's risky — it only takes one slow season to end up swimming in inventory. And differentiating your shop among a cadre of giants, from Nordstrom to Urban Outfitters, is no mean feat even with a healthy marketing budget, which most entrepreneurs don't have. "There has to be some special reason that you're there," says Howard Dawidowitz, a New York-based retail consultant. (For more on starting a clothing retailer, see "The Fundamentals of Retailing.")

Restaurants and bars
Budding restaurateurs have an uphill slog too. "Food businesses in general are deceptively familiar," says Clark Wolf, a New York-based food and restaurant consultant. "That's part of the magic and part of the serious danger." Restaurants often fail because they are undercapitalized: Getting ready for opening day — from fitting out the kitchen to complying with city health codes — can run in the hundreds of thousands of dollars. Once you open your doors, get ready for your staff to walk out through them at a moment's notice. And oh, yeah: Most food-service vendors like cash on delivery, so a slow week can make it hard to buy next week's ingredients or alcohol.

How about a purveyor of handy-dandy cell phones and other PDAs? Even the smallest towns in the U.S. have several companies hawking mobile devices, including telecom giants such as Verizon and Sprint Nextel. Low margins plus established competitors equals high risk for independent dealerships.

Which industries are a better fit for the faint of heart? Surprisingly, real estate — including landlords, agents and developers — has a relatively low risk profile, according to Fair Isaac's data. Professional services and licensed trades score well too: Think insurance brokers, doctor's offices and law firms.

Yes, the world is full of lawyers. Too bad people actually need them.