Entrepreneurs

Entrepreneurs: Optimists or Realists?

There’s no doubt that you’ve heard that most businesses fail.  When you look at the statistics, it’s very easy to believe that entrepreneurs are dreamers that either ignore the statistics or are just plain naïve.  If you knew 96% of companies fail within ten years, would you still do it?  We know entrepreneurs are smart and willing to take calculated risks, despite these overwhelming odds.  Do they even consider the realities of the entrepreneurial journey?

The first thing to realize about the odds of failure is that they are directly related to the amount of cash in the company.  Bill Camody stated in his article “Why 96 Percent of Businesses Fail Within 10 Years” that “cash is a fact.”  Once you don’t have any more cash, you can’t pay your bills.  This is a reality and certainly hits home very hard.  Now consider that the most significant source of funding for all business startups is the founder’s personal savings, which is roughly four times greater than any other source, according to the Kaufman Institute.  Venture capitalists and angel investors don’t engage heavily in startups.  If you’ve seen ABC’s TV show, Shark Tank, you know the sharks don’t like to invest in an unknown.  They want to see a cash flow before risking their money.  So, if you’re going to get money from others, either do it very early in the launch or you’ll have to grow the business before you can get a cash injection.

Most startups fail.  Most founders use their own money.  What can they be thinking? Do entrepreneurs overlook the realities of startups?  In a survey by Kauffman, many founders shared their thoughts on the factors that prevent others from creating their own startup.  These factors just might be the realities that one needs to consider (and constantly measure) when engaging in their own startup.

  • Risk – over 98% of respondents ranked an inability or lack of willingness to take risk as an important barrier to entrepreneurship.
  • Time and effort – 93% feel that entrepreneurs often underestimate the time and effort requirement to get their startup off the ground.
  • Capital – 91% identify the difficulty in obtaining capital as a major inhibitor, which may explain why most use their own money to start their new company.
  • Management skills – 89% cite management skills and the ability to start a company as critical to success.
  • Family pressure – 83% believe that family pressures to get a steady job and paycheck are real and challenging.

Other challenges mentioned in the survey include stress, maintaining a work-life balance, developing products and services for changing markets, government regulations, taxes, and the costs of employee benefits.

While it’s very hard to identify the right combination of the aforementioned factors that will lead to business success, there are some factors that will certainly lead to failure.  In a study by the University College London, it was found that businesses with entrepreneurs who held no real business experience did not increase profits.  The premise here is that nascent entrepreneurs don’t apply the appropriate weight to opportunities and threats.  In other words, their alertness to identifying threats and use of cognitive skills to recognize opportunities are not in balance.

Optimism has been shown to have a positive impact on entrepreneurial success, in terms of both actual firm growth and financial performance.    Realism, which also affects financial performance positively, is defined as the consistency between growth expectations and actual growth.  As with most entrepreneurs, and as verified by this study, optimism dominates over the impact of realism.

With regards to a balance of both optimism and realism, a dose of realism has the effect of modifying the overconfident cognitive bias of optimism.  For example, watching more cash flow out of your company than in for a long period of time has a propensity to dampen high expectations of future success, forcing one to reevaluate the current situation and cognitive strategy.  A lack of business experience can lead to a late recognition of this imbalance, resulting in failure.

In my experience, most entrepreneurs do a fairly good job of identifying threats and opportunities.  The things they incorrectly assess about them are the magnitude and timing, such as running out of money.   An important thing to remember is that most businesses are not creating something that hasn’t been done before.  There is a lot of literature, experience and information in the world.  Entrepreneurs should always seek it out and ensure they are correctly and constantly assessing their expectations, measuring performance factors (for a dose of reality) and maintaining just enough optimism to keep striving for their aspirations.  Additionally, before you begin to establish any expectations for your business, ensure you have fully applied your cognitive abilities to the factors mentioned above; that is, risk taking, funding, time and effort, management skills and family.

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