Chapter Two

Small Business
2.1. Definition and importance

Small business is a business which is independently owned and operated, not

dominated in its field of operation and meets certain standard of number of
employee and capital. In general there are two approaches to define a small
business; measures of the size and economic/ control criteria.
1. Size criteria
Even though the criteria used to measure the size of business vary, Size refers to
the scale of operation. Some of the criteria’s to measure the size are
 Number of employees: - for example in Ethiopian case it is Less than 30
employees (6-30).
 Investment paid up capital: - for Ethiopia it is 100,001-1,500,000 (industry),
and 50,001-500,000 birr (service).
 Volume of sales, production and deposits are also used to measure the size
of business
 If there is ambiguity in the definition between the usage of man power and
capital, it is recommended to use the total paid up capital as a measurement
criteria.
2. Economic/Control criteria
Size does not always reflect the true nature of an enterprise. In addition to this
qualitative characteristics will be used to differentiate small business from other
businesses. These are

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 i. Market share
The characteristic of a small business in relation to market share implies that
there is no significant influence on the price of national quantities of goods sold
to any significant level.
ii. Independence
Independence means that an owner has control of the business himself.
iii. Personalized management
Personalized management is the most influential characteristics of all. It implies
that the owner actively participates in all aspects of the management of the
business and in major decision making process. There is little devolution or
delegation of authority
iv. Technology
Small business is generally labor intensive.
v. Geographical area of operation:-The area of operation of a small
business is often local.
2.2. Economic, social and political aspects of small business enterprises in
Ethiopia
Small businesses have to play a vital role in Ethiopian economy. In order to do so
they need a strong support on socio-economic and political ground
1. Socialistic idea (the equality argument )
The goal here is the establishment a socialistic pattern of society. Our objectives
are equitable distribution of wealth and decentralization of economic power.
According to this argument unregulated growths of large scale industries result in
concentration of economic power in a few hands and consequently gross inequities
in the distribution of income and wealth in the country. On the other hand, income
generated in a large number of small enterprises is dispersed more widely and its
benefit is derived by a large population.
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 2. Less capital and more labor
The main problem here is that we have vast manpower and inadequate capital,
which has resulted in increasing unemployment. This is unlike that of western
countries where man power is limited but capital resources are enormous. The
small scale sector has the capacity to generate a much higher degree of
employment than the large scale sector. This argument is based on the assumption
that small scale industry are labor intensive and thus create more employment per
unit of capital.
3. Removing regional imbalances (the decentralization arguments)
Another problem is the continued shifting of people from rural to urban areas
which causes overcrowding in cities with slum conditions due to lack of social and
medical amenities which require heavy investments. This problem can be resolved
by inducing people to set up small scale industries in rural areas. Large scale
industries have the tendency to concentrate in big cities. As a result semi urban and
rural areas remain deprived of the benefit of industrialization like problems of
pollution, slums and shortage of civic facilities etc.
4. Creating self-employment opportunities
5. Ancillary functions
Many small scale industrial units supply parts and accessories to bigger industries.
This ancillary function involves specialization in a specific area and results in
greater profitability.
6. Export promotion
Small scale industries are, now a day, opening up fresh avenues in the export
market in our world. Realizing the importance of the small scale sectors in the
economy the Ethiopian government has adopted several measures to speed up the
growth of small industries.

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 7. Supply of critical raw materials
The government of Ethiopia has also liberalized the import policy to ensure regular
supply of raw materials to small sale units and devised a more efficient and
consistent system of distribution of critical raw materials.
2.3. Small business failure factors
Many small businesses fail due to various reasons. Presumably, most of the
reasons are artificial, i.e. the majority of the reasons are created by faults and
mistakes of human beings. Some of the reasons include the following.
 Management incompetence
 Poor financial control
 Lack of adequate capital
 Over investment in fixed asset
 Failure to plan current as well as future operation
 Failure to adopt proper inventory control system
 Improper Attitude (The entrepreneur may not respect time, employees and
may have lazy lifestyle and dictatorial style of work)
 Inadequate marketing plan
 Incorrect market identification
 Poor distribution channel
 Weak marketing communication or promotion
2.3.1. How to avoid the pitfalls/difficulties of a small business
Know your business in depth: - Knowing your industry well can be one of the
ways of minimizing the failures of small businesses. Also knowing your business
well by preparing documented business mission, objective, strategies and policies
is another method.

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Have a Good Relation with Stake Holders: personal contact with suppliers’
customers, trade association and even competitors is one of the ways to get
knowledge.
Prepare business plan: -a well-written plan is a crucial ingredient for the success
of small business. Answering, “what business I am in?” leads to the establishment
of goals and objectives. In turn these serve as aids in creating strategies policies
and procedures.
Managing financial resources: - the first step in managing financial resource is to
have adequate startup capital. The most valuable financial resource to small
business is cash. You cannot maintain control over a business unless you are not
able to judge its financial health.
Understanding financial statement: - to understand what is truly going on in the
business you must have at least basic understanding of accounting and finance that
would help to recognize the financial position of your business from time to time.
Learn to manage people effectively: -every business depends on a foundation of
well-trained, motivated employees. You would only do this if you learn how to
manage people more effectively.
Keep in tune with yourself:-the success of your business will depend on your
constant presence and attention and so it is critical. As an entrepreneur you must
always be physically and mentally fit through adjusting yourself with time.
Take up short professional courses in management (entrepreneurship): to
improve your managerial skills.
Be sensitive to your customers: your best opportunity lies within your customers.
If you lose them, you will be hurt. So as an entrepreneur, don’t ever give yourself a
chance to disappoint them. The other is being wise in identifying the present and
future needs of your customers through the analysis of the changes in their
interests.
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 2.4. Problems in Ethiopian small business

Small scale industries have not been able to contribute substantially as needed to
the economic development particularly because of financial, production and
marketing problems. These problems are still major handicaps to their
development. Lack of adequate finance and credit has always been a major
problem in Ethiopian small business. Mostly they do not have access to industrial
sources of finance partly because of their size and because of the fact that their
surpluses which can be utilized to repay loans are negligible.

Small businesses also find difficulties to get raw materials of good quality and at
a cheaper price in the field of production. Very often they do not get raw
materials in time. As a result these enterprises very often fail to produce goods in
requisite quantities and of good qualities at a lower cost. Furthermore the
techniques of production of these enterprises adopted are usually out dated.
Besides, many small business enterprises are suffering with problem of marketing
their products.

2.5. Setting a small business

Setting up new small enterprises is a very challenging and rewarding task. Several
problems are involved in the task. Right from the conception of the business idea
up to the startup of production, numerous decisions have to be taken.

The first and for most step in starting a small business is to find out a suitable
business idea and give a practical shape to the idea. The entrepreneur should be
convinced that idea is “in fact a sound one and likely to give reasonable return on
his investment”. The search for an appropriate business idea is a complicated
exercise because the entrepreneur comes across enumerable business opportunities.

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To choose a business idea, skill, foresight and ingenuity are required on the part of
entrepreneur.

2.5.1. What is a basic business idea

In practical situation it is seen that an entrepreneur find it rather convenient to

think of product, keeping in view the immediate further rather than the long term
goals. Business atmosphere being what it is with all its uncertainties, it is more
likely to face a serious problem either when he wants to expect or when the first
product meets with a failure.

It is logical, therefore, to think of a goal for the unit in the long run rather than to
look for the immediate tomorrow. This long term thinking is called Basic Business
Idea. The basic business idea and the product through hierarchy can be represented
as follows;

Basic Business Idea

Product line

product range

product

Fig 2.1: Hierarchical presentation of business idea

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Businessmen should think of long term goal and the profit when they start a
business. The basic business idea, which is at the top of the hierarchy, is to meet
the broadest needs of the customers and has a long life perhaps from 5-50 years.
The basic business idea facilitates choice of product under an overall plan.

The product line is relatively narrow and has a shorter life. The product line
consists of different families of products. A unit with a basic business idea of
producing packaging can manufacture groups of the product for example, glass
bottle plastic package, aluminum package, paper package metal package etc.

The product range on the other hand includes different sizes of the product within
the product line. In the example given above different sizes and shapes of glass
bottle can be manufactured

The product is one item of the product range having different specifications like
size, material used and weight etc.

The basic business ideas, which facilitate a choice of a product at different stages
of the project, allows for diversification and expansion. But the basic business idea
is not always the same. In order to establish a business venture with an
entrepreneurial system an entrepreneur needs to take the following steps

1. Search for business idea

2. Process the idea
3. Select the best idea
1. Search for business idea: - the task of promotion begins with the search of a
suitable business idea. The idea may relate to the starting of a new business
or to take over of an existing enterprise. The idea should be sound and

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 workable so that it may be exploited. The idea may be originate from
various sources.
2. Idea processing
a. Preliminary evaluation and testing of ideas:-once business idea are
discovered screening and testing of idea is done through its technical
feasibility and commercial feasibility
b. Detailed analysis:-after preliminary evaluation of the idea, the promising
idea is subjected to a throughout analysis from all angles. Full analysis is
carried out in the technical feasibility and economical visibility of the
proposed project. Financial and managerial feasibility is tested. At this stage
a lot of information is required. Consultation with experts in varies area of
the industry may be necessary to carry out the detailed analysis. Due care is
necessary at this stage because the idea is finally accepted or rejected at this
stage.
3. Selecting the best idea
The feasibility report is analyzed to finally choose the most promising idea.
2.5.2. What a project an entrepreneur should have?

In the precise sense, a project presupposes commitment to task to be performed

with well-designed objectives, schedules and budgets. It is also defined as a work
plan devised to achieve specific objectives within a specific period of time.

The project an entrepreneur chooses should be based on SWOT analysis. The

project could make its focus on various business sectors ranging from small to
large sized ventures. A project can be defined in different ways as follows:

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A project is a complex of economic activities in which the key players commit
scarce resources in the expectation that the benefits gained will exceed these
resources.

Also, a project, broadly defined, is a way of using resources; a decision between

undertaking and not undertaking a project is a choice between alternative ways of
using resources.

The project should have to consider the SWOT factors and should be designed
accordingly. SWOT is an acronym for strengths, weaknesses, opportunities, and
threats. The SWOT approach compels individuals to think or reason out
systematically and analytically the important strengths, weaknesses, opportunities,
and threats factors. An important strategic tool, SWOT analysis, helps
entrepreneurs to compare internal organizational strengths and weaknesses with
external opportunities and threats.

Strengths and weaknesses focus your business to look internally at what your
business can do. Many businesses are great at looking inward but fail to look
outside their company. Threats and opportunities are external; focusing on the
conditions of the real-world.

This is where a SWOT analysis is helpful. It challenges you to see beyond your
company walls to determine what opportunities are open for your company and
how to capitalize on your strengths. While most of your analysis will be subjective,
the SWOT can provide multiple benefits to your small business. These benefits can
include:

 Insight into where your business can focus to grow

 Understand the industry structure by using a SWOT in your business plan.

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  Focus your advertising and marketing on areas that give you a competitive
advantage in the marketplace.

 The foresight to see looming threats and react proactively

Strengths

They are the skills and capabilities that enable an organization to conceive and
implement its strategies. Anything a customer wants that you provide and your
competitor doesn't, can be a possible strength.

 Business location or product exclusivity

 Patents or proprietary goods

 An established distribution channel

Weaknesses

It is an inherent limitation/constraint, which creates a strategic disadvantage. Think

of objections your customers raise during the sales process. Think of your
competitors' remarks. Is there any truth to what they say?

 Limited human resources and staff

 High cost of production

 Products or service similar to competitors'

Another example of weakness is overdependence on a single product line, which is

potentially risky for a firm in times of crisis.

Opportunity

It is an area that may generate high performance for the organization if exploited.

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  Government regulation softening
 Development of new technology

 Growing trend and customer base

Threats

These are any factor that may limit or impede the small business firm in the pursuit
of its goals. They are unfavorable condition in the organization’s environment,
which creates a risk for, or causes damages to the organization.

 New substitute products emerging

 Price competition

 Economic pressure

Project classification

Project can be classified in various ways by different authors. In general it can be

classified according to the following manner

1. Quantifiable and Non-Quantifiable projects

Quantifiable projects are those in which plausible quantitative assessment of

benefits can be made. Non quantifiable projects are those where such quantitative
assessments is not possible. Examples of quantifiable projects are projects
concerned with power generation; mining, while for non-quantifiable projects;
health, educational and defense institutions are some to be mentioned

2. Sectorial projects :-under this the following projects can be mentioned

i. Agricultural sector
ii. Power sector

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 iii. Industry and mining
iv. Social service sector
v. Transport and communication

3. Techno-economic project:- Techno-economic project includes

i. Factor intensity oriented classification :- the factor intensity is used as
a base for classifying the projects as a lobo\r intensive and capital
intensive projects
ii. Causation oriented classification:- here projects are determined based
on its causes namely demand based or raw material based
projects .the non-availability of certain goods or services and the
consequent demand for such goods and services; or the availability of
certain raw materials and skills are the dominant reason for starting
such projects.
iii. Magnitude oriented classification:- the size of investment forms the
basis for such projects. Here based on the magnitude projects can be
classified as large scale; medium scale and small scale projects.
4. Financial institution classification:-some financial institutions classify
projects according to their age, experience and the purpose for which the
project is being taken up. They are as follows
i. New project
ii. Expansion project
iii. Modernization project
iv. Diversification project
2.5.3. Definition of industry and small scale industry

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Industry: - is an institution where raw material is purchased from suppliers,
converted into a finished product, using machinery and labor and sold to buyers.
Conversion of raw materials means changing the size, shape, chemical properties
and assembling different parts etc.

Small scale industry: - is defined as industrial units engaged in

manufacturing/preserving activities or servicing/repairing operation with an
original investment not exceeding 1,500,000 birr.

Classification of small scale industry

1. Manufacturing industries: - industries producing complete articles for direct

consumption and also for processing industries
2. Feeder industry: - specializing in certain types of products and services e.g.
casting; electroplating; welding, etc.
3. Servicing industry:-covering light repair shops necessary to maintain
mechanical equipment
4. Ancillary to large scale industry:-producing parts and components and
rendering services to large scale industries
5. Mining/quarrying industry

Characteristics of small scale industry

The following are some of the important characteristics of small scale industries

i. Closely held: - the unit is generally a one-man show. Even if a unit is run
by a partnership concern/company, the activities are mainly carried out
by one of the partner and the others are merely sleeping partners who
generally assist in providing finance

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ii. Personal character:-there is a close personal contact/supervision of all
activities, say purchase, production, labor and sale of products. The
owner himself generally is the manager. Therefore these firms are
generally managed in a personalized manner. The Manager is actively
participating in all decision making process.
iii. Limited scale of operation: - a small scale unit has a limited share of a
given market. The size of the firm in the industry is small.
iv. Indigenous resources: - small scale industries can be easily located
anywhere subjected to availability of raw materials, labor finance, etc.
They are mostly using local resources therefore they are dispersed and
decentralized in location
v. Labor intensive: - they are generally more labor oriented with
comparatively smaller capital investment than the larger unit. The capital
investment is limited due to the use of simple technology.
vi. Local area of operation: - the operations of small scale unit are generally
localized. However, market for its products need not be local. It may
cater to local and regional demands or its products may even be exported.
vii. Simple organization: - a small scale industry has few or no layer of
management. Division of labor or specialization is low and the resources
are limited.

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