From the January 2007 issue of Entrepreneur

Larry Dietrick is smiling--and why shouldn't he be? Scientel Wireless, his 22-person Lombard, Illinois, company, grew from $3.2 million in 2005 sales to $4.2 million in 2006 sales. "It's a spectacular business right now," says the 48-year-old entrepreneur, who designs and builds wireless broadband networks for cities and public agencies. "There's a lot of interest in the market."

Yet behind the president and co-founder's cheery outlook are significant concerns. A talent shortage has him doing back flips to hire qualified employees. Health-care costs keep climbing, making it more difficult for Scientel to match larger employers' compensation deals. "It's often hard for us to compete in the benefits package," Dietrick says. Even when the company does find a good hiring match, other issues can snag the deal. "We did hire one individual, [but we] had to go through a rather lengthy immigration issue."

Dietrick's optimism--and his concerns--are widely shared, according to Entrepreneur magazine and PricewaterhouseCoopers' second annual "Entrepreneurial Challenges Survey." While 66 percent of the entrepreneurs we contacted in the third quarter of 2006 were optimistic about the U.S. economy, finding and retaining qualified employees was most often cited as the single most pressing challenge businesses will face in 2007.

"The demand has never been higher for good employees; that's true across the board," says J. Fentress Seagroves, partner in PricewaterhouseCoopers' Private Company Services practice in Atlanta. "It is one of the key drivers of value and clearly the cornerstone of competitive advantage today." In terms of M&A, Seagroves says that employees and managerial talent are often the critical drivers in transactions, especially when acquiring companies are seeking access to local knowledge and contacts to help them expand to overseas markets such as China.

While Seagroves recognizes the challenge of finding talent, he says the overall tone of the entrepreneurial response was positive--and that the positive outlook of entrepreneurs itself bodes well for growing businesses. "It's meaningful because confidence is a critical indicator of current and future economic activity," he says. "Positive and optimistic trends are always a good sign."

Look on the Bright Side
To acquire data for the 2007 "Entrepreneurial Challenges Survey," PricewaterhouseCoopers polled 281 fast-growth firms, including 125 product companies and 156 service providers. One hundred twenty-nine companies were in high technology, and 152 were nontechnology firms. Overall, the companies surveyed averaged 249 employees; 77 percent, however, had 100 employees or fewer. Average revenue topped 35 million, and the average surveyed company grew 211 percent in the past five years.

Direct comparisons with 2006's survey are difficult because some questions changed. But it seems entrepreneurs are generally more upbeat this year. Only 62 percent were optimistic about the U.S. economy last year (compared with 66 percent this year), and 29 percent were uncertain (compared with 25 percent this year). In another sign of a positive mood among America's entrepreneurs, those surveyed said they were not very concerned about inflation, taxes, immigration and the possibility of a real estate bubble bursting.

The pressing shortage of qualified workers repeated as the focus of business worries for 2007. Twenty percent of respondents predicted that finding and retaining qualified workers would be the single most important challenge of the year, edging out growing the business (18 percent) and coming in well ahead of sales, revenue and demand issues (11 percent). On the roster of challenges, the only other category that garnered a double-digit response was changing conditions in the economy (10 percent).

Staffing is easily the biggest problem facing her industry at the moment, says Lorraine Kay, founder and CEO of Kay Construction in Mount Laurel, New Jersey. "I have turned down work this year because I didn't feel I could find the right qualified help," says Kay, 56, whose 46-person company does $60 million a year managing commercial construction projects.

Growing his business is an area of emphasis for Michael McNicholas, 54, president and founder of Hialeah, Florida, steam boiler seller Enviro-Mechanical Inc. "In my business, there's only so much pie you can work with," says McNicholas, who employs 11. "The steam industry is not really growing." Faced with a stagnant domestic market, McNicholas has turned to foreign customers, who now make up 40 percent of the company's $3 million in annual sales.

Competition gets a lot of attention from Stephen Voudouris, CEO of online retailer Xoxide Inc., which he co-founded with his brother Andrew, 20, and Chris Francy, 23. Stephen, 22, started the Malvern, Pennsylvania, company when he was in high school and online retail competition was weaker. "Now we see three or four sites a week pop up doing the same thing we [do]," says Stephen, whose 35-employee company sells computer and car parts and other items through several e-commerce sites. In addition to increasing competition for customers, he says the growing number of rivals is causing the cost of online advertising to rise sharply.

Like many entrepreneurs, Stephen experienced double-digit percentage increases in his health-care plan premiums last year. That's just the latest in a long string of steep hikes in health-care costs, but entrepreneurs seem to be getting used to it. Only 28 percent listed rising health-care outlays as a wild-card factor that could upset the apple cart in 2007, down from 43 percent last year. Stephen, however, isn't used to it: "Maybe people are getting over it, but it still bothers us just as much."

Beware of Spoilers

If you read the headlines, you might expect entrepreneurs to worry about rising taxes, looming inflation, changes in immigration law and the possibility of a bubble market in real estate. For the most part, you'd be wrong. Just 6 percent of the entrepreneurs surveyed listed higher federal, state and local taxes as a wild-card factor. Kay says the government's take doesn't keep her up at night the way some issues do. "Taxes are always an issue," she says. "But it's across the board. So it's not really making a difference vs. our competition."

For Kay, one of the scariest wild cards is the one most entrepreneurs considered least likely to be a wild card. That factor is inflation, which only 4 percent of those surveyed identified as a top wild card. In fact, inflation was just above "other" and "not reported" at the bottom of the wild-card rankings, which asked entrepreneurs to name their three most critical wild cards.

Kay, however, makes no bones about the fact that inflation scares her. "In my 35 years of doing this, I've never seen inflation across the board, not only for products but for labor as well, as we are seeing now," she says. She reports paying 70 percent higher prices for steel after an inflationary explosion in that critical commodity early last year. "Then cement went berserk," she reports. "Now it's not one product, it's every [product]."

Fuel prices no doubt contributed heavily to the increase in costs of bulky materials and energy-intensive commodities like cement and steel. Even though fuel prices have steadied, Kay says, other prices remain high. Meanwhile, some entrepreneurs seem to have adjusted to higher fuel prices. Only 16 percent listed energy costs as a wild card, compared to 24 percent a year earlier.

Many are passing costs onto their customers, Seagroves says. "There's a lag time to that," he explains. "Energy costs will go up and they'll pass through a price increase. If that holds, the tension will usually come down."

Changing immigration policy, another hot-button political issue, was of little concern to these entrepreneurs. Just 7 percent counted it as a wild card. And the prospect of a deflation in the real estate market also did not generate much worry. Kay, for instance, says that while residential real estate may be softening, demand for the warehouses and other commercial construction projects she specializes in remains strong. "The economy will continue to be robust, fueled by reduction of fuel costs as well as historically low interest rates," she predicts. "It's still very affordable for businesses trying to finance expansion."

The variety of responses from the entrepreneurs we interviewed about the survey's findings clearly illustrates that a wide variety of viewpoints exists. One entrepreneur's solution is another's problem, and what gives one a headache is no problem for many or even most of the rest. Dietrick, for example, says one of his worries is access to capital, a concern only 4 percent of entrepreneurs listed as the single most important challenge for 2007, and just 9 percent said it was a wild card.

Despite a 2006 growth rate topping 30 percent, Dietrick feels capital-constrained and says his company could grow even faster if it could fund the expansion. "We have a good relationship with our bankers," he says. "They're just not willing to go as far as we'd like them to."

Meanwhile, Seagroves reiterates that core skills for all entrepreneurs are flexibility and agility in facing a constantly evolving set of tests. Though it's vital to under-stand the problems facing you and other entrepreneurs, it's also important to avoid getting tunnel vision about today's issues. "These things will pass," he says, "and a new bevy of challenges will come over the next hill."

Solutions

Solution #1: Hiring Smart
The importance of winning the talent war is driving entrepreneurs to explore a variety of ways to identify, recruit, develop and retain quality employees. The best approach is to ask your existing employees for referrals to people they think would fit in at your company, according to Robin Kreitner, director of human resources at Safilo USA, a luxury eyewear company in Parsippany, New Jersey. But don't just ask-offer them money. Kreitner says Safilo pays referring employees $500 after new hires have been there six months and another $500 after a year. Gift certificates to popular retailers are another motivator. Safilo is a large firm, but you can adjust the amount of referral incentives for your company's size and budget.

Some entrepreneurs are looking to their local educational systems to try to build a reservoir of appropriately trained and motivated employees. Lorraine Kay, CEO of Kay Construction in Mount Laurel, New Jersey, works with local colleges to improve the image of the construction industry and fine-tune the

courses offered to students studying project management, engineering and architecture. "We're also hiring interns," says Kay, 56. "We have almost a 1-to-1 ratio of interns to project managers and assistant superintendents." Hiring inexperienced students who are still in college gives Kay inexpensive part-time help now, she says, and an inside track to hiring them full time after graduation.

Solution #2: Cut Costs
Cutting costs, a new category added this year, jumped into fifth position among the top concerns for entrepreneurs. Hialeah, Florida, entrepreneur Michael McNicholas, 54, president of boiler distributor Enviro- Mechanical Inc., says cutting costs is one of the only ways he can improve profits in light of the slow-growth industry in which his company operates. McNicholas is working to save money on office supplies by e-mailing invoices and hopes to find a telephone plan that will cut telecom costs.

Rising health-care costs affect all businesses, but it doesn't have to be that way, says Bill Collier, author of How to Succeed as a Small Business Owner. and Still Have a Life! Taking advantage of Section 125 cafeteria plans, health reimbursement accounts, health savings accounts and flexible spending accounts can help many businesses reduce current health benefit costs by 20 percent or more, Collier says. Entrepreneurs have to invest the time and energy to become true experts on this critical

and costly element of doing business, he adds. He also advises business owners to manage compensation costs as a block. For example, take insurance rate increases into account when giving employees raises. Granting 4 percent salary hikes and then taking a 20 percent insurance increase leads you to overspend with-out realizing it.

Solution #3: Beat the Competition
A globalizing economy means intensified competition for entrepreneurs in almost every industry. Some deal with it by offering the best prices, while others believe taking care of customers will put them ahead.

Differentiating yourself as a customer-focused organization that can be relied upon is a smart way to go for service company entrepreneurs like Lorraine Kay, 56-year-old CEO of Kay Construction in Mount Laurel, New Jersey. That way, "you don't necessarily have to be the low bidder to be selected for the next project," says Kay, pointing to her company's 71 percent repeat customer rate.

Michael Shuman, author of The Small-Mart Revolution: How Local Businesses Are Beating the Global Competition, says small firms should band together in manufacturing networks, producers' cooperatives and joint local delivery systems. Lobbying economic development organizations to support small local firms with tax breaks that currently go to big companies can help too, Shuman says. Entrepreneurs should also leverage their built-in advantages against global rivals. Local producers, for example, spend far less to transport goods than importers do-an advantage that gets stronger when fuel prices climb. One of the best overall competitive solutions is selling directly to local markets, Shuman says, because it minimizes transportation costs, middleman markups, currency exchange risks, Homeland Security hassles and other issues that plague global competitors.