This post outlines three keys to entrepreneurial success: finding opportunities, conducting feasibility studies, and developing an entrepreneurial mindset.

Finding Opportunities [i]

An important first consideration is where aspiring entrepreneurs find opportunities – what one author calls finding fertile ground.”

Certain knowledge conditions are favorable for start-up businesses. For example, when knowledge is not complex, entrepreneurs can more easily create market opportunities. Additionally, the existence of large markets provides a better opportunity for entrepreneurs. If markets can be served without additional expenses – such as advertising or marketing costs – a new business is able to funnel cash to other essential parts of the business.

Technology characteristics influence the ability of the innovator to appropriate value. For example, knowledge embedded in an innovation may be tacit or explicit. Explicit knowledge can be written down and easily communicated.Tacit knowledge is less tangible, a product of someone’s experience, and is thus difficult to transfer to another person by means of writing or verbalization. For example, stating to someone that Sydney is located in Australia is a piece of explicit knowledge that can be written down, transmitted, and understood by a recipient. However, the ability to speak a language, use mathematics, or design and use complex drawing techniques requires knowledge that is not always known explicitly (even by expert practitioners). The more tacit the knowledge, the more protected the innovation. [ii]

For new businesses, value-added tends to come from places other than manufacturing and marketing (since large companies have the advantage when these functions are required). New firms tend to perform better when they exploit general-purpose technologies (vs. specific-purpose technologies). A general-purpose technology is one that can be applied in multiple markets. Established firms tend to find general-purpose technologies hard to manage since they want technologies that create value in their current markets and at their stage of the value chain. Most of the time, the best approach is with technology already in existence. [iii]

Lead-time is the time it takes for followers to catch up. The effectiveness and efficiency of innovators, with respect to lead-time, determines how much value innovators will obtain from the innovation. The bottomline is that if others can copy an innovation quickly, the original innovator will not reap large rewards.

Ultimately, it’s most important for entrepreneurs to constantly think about challenges, solutions, finding new opportunities. Also, new firms tend to perform better when exploiting opportunities in new markets with unknown demand since large firms generally rely on market research data based on large market samples. When looking for data, start with a problem identified by customer complaints, expressions of unfulfilled wishes, or your own observations to determine if customers are having difficulties with certain products or industries. Customers often have difficulties articulating the relationships between new products and services and their needs. So, it is important to act as an anthropologist to observe people and discover ideas.

Next, look at the role of dominant design or standards. For example, technology evolves through periods of incremental change, interrupted by radical changes in a dominant design- and then experiences converge again. Since current explorations of new renewable energy solutions are demanding new technology standards, the entrepreneur may be able to enter a market where these standards are not yet established. Lack of dominant design is generally best for new firms; at this stage, markets are fragmented and have less competition. Dominant designs are rarely cutting-edge technologies; thus, a new technology may cause a radical shift in a market, yet not become the dominant design. The risk for the entrepreneur is that they will be working with a standard that does not become the dominant technology.

Demand conditions favorable to entrepreneurs include large markets, high rates of industry growth (so that new companies do not need to steal customers from large competitors), and heterogeneity of markets (containing many segments). These conditions provide new entrepreneurs with a customer base that is often not threatening to larger, more powerful companies. Entrepreneurial firms have advantages when the work is more labor-intensive, requires minimal advertising, involves fewer competitors, and the average firm size is small. Entrepreneurs can also have advantages in young industries, which generally have fewer competitors and diverse standards.

Another potential way to find opportunity is by exploiting established companies’ weaknesses. This can be best accomplished by looking at research and development (R&D) trends. R&D agendas come from client needs and the abilities within a firm. Most R&D yields “usual” returns despite the celebrated examples of “spectacular” returns. Thus, investments in innovations are not guarantees of success and strategic choices in the area of R&D involve substantial uncertainty. [iv]

Opportunities are greater when a business appears marginal to larger companies or the product is something larger companies are not very good at producing. Entrepreneurs must look for innovations that were rejected by larger companies (e.g., when they were making investment decisions and rejected good ideas simply to narrow their scopes). You might use a current job as a means of identifying information that may lead to new opportunities; three-quarters of new businesses are related to their founders’ former employers (either serving the same customers or offering similar products). [v]

Entrants design a new product that may threaten a monopolist using two mechanisms: replacement or efficiency. The replacement mechanism occurs when a monopolist has little incentive to innovate because a new entrant has a stronger basis for developing an innovation. In this case, monopolists gain little from innovation. Thus, an entrant can replace a monopolist with the innovation and weaken the established firm’s incentive to innovate. The efficiency mechanism is when monopolist firms have an incentive to innovate to protect their positions. In this case, the new entrant can, at best, become a duopolist if it innovates (i.e., two suppliers control the market).

Also, an entrepreneur needs to be considering the following question: What industries will exist in the future that may be unknown today? For example, renewable energy is presenting new opportunities to invest in ways of producing energy and consuming it using solar panels, unique building designs, and alternative ways to distribute energy. Additionally, water technologies are creating emerging opportunities around the world.

Entrepreneurs can exploit points when an industry is shifting from one basic technology to another. These inflection points provide uncertainty and a chance for new players to create market opportunities. Entrepreneurs should also pursue opportunities to create new products or services based on discrete technologies, such as a technology that can be exploited on its own (versus a systemic technology that must be exploited as part of a larger system).  For example, software that works with just one operating system can be limiting and subject to other software packages replacing it.

Established companies are generally better at exploiting established business opportunities (vs. new firms) due to experience, reputation effects, and scale economies. Each of these advantages may be difficult to overcome by a new firm. So, new firms should not start businesses in these conditions. To offset these advantages, new firms might exploit established capabilities, listen to customers, serve those who are underserved, and hire the employees of established competitors.

Big companies are generally focused on efficiency. They tend to be slower at innovation (despite their advantages) even though they may have incentives to innovate. Larger firms tend to cut back expenditures on R&D to gain efficiencies. Established firms tend to use existing capabilities and find it more difficult to develop new capabilities. They have developed routines that serve them well; however, these routines are also core rigidities that at time can prevent innovation. Thus, routines often lead dominant firms in an industry to dismiss or reject the value of new products or services.

Managing information is important. For example, if an entrepreneur wants to license technology to an existing manufacturer and have that company manufacture a product, the manufacturer needs to be told what the new technology will do. This discloses the information. Codified knowledge is easier for contracting. When technical standards exist, market-based mechanisms are more viable. This helps with coordination. When complementary assets are general, market-based mechanisms are good choices.

Patenting and penalties are the best ways to mitigate the effect in this case. Adverse selection is another issue that entrepreneurs face. For example, potential employees misrepresenting their abilities to gain a job is a common problem in start-ups. Thus, to avoid this problem you could use franchising.

Feasibility Studies

Once an idea is identified, the next step is to develop a feasibility study (prior to developing extensive organizational plans). A feasible idea is one that has a high potential of being implemented in a market. There are myriad ways to approach a feasibility study.

At its core, successful entrepreneurship is comprised of three critical elements: markets, industries, and one or more key individuals who make up the entrepreneurial team. Here are the core questions in a feasibility analysis:

  1. Are the markets and industry attractive?
  2. Does the opportunity offer compelling customer benefits as well as a sustainable advantage over other potential solutions?
  3. Can the team deliver the results they seek and promise to others?

These questions are the starting point. To complete a feasibility study, an entrepreneur must look at many aspects of the business, common to business plans and business models.

One common mistake made by entrepreneurs is that they skip the study of the feasibility of an idea and try to develop a complete business plan. This process is not advised since many seemingly good ideas, when tested for feasibility, do not stand up to scrutiny. Therefore, entrepreneurs are advised to take their time before formalizing the business.

Entrepreneurial Mindset

A third consideration is developing an entrepreneurial mindset (i.e., learning to see opportunities, acquiring the right mindset, and training yourself in innovation processes). Think “new business” constantly and continually rework your ideas. Push yourself to see opportunities rather than risks and look for potential innovations within disparate life experiences. Finally, write constantly about your life goals and what you want out of life. Then, constantly search for opportunities that satisfy these goals.

Large companies can be entrepreneurial, as well. If they want to act entrepreneurially they may want to consider the firm’s product life-cycle. To find ideas in large companies, consider the types of innovation represented in the table below. A firm’s resources and capabilities, competitor positioning, potential responses, and category maturity all determine what to pursue. For example, changes in a life cycle of a product or industry could be caused by changes in demographic characteristics, preferences, power of the players, demand growth, creation and diffusion of knowledge, and dominant designs and standards that take hold.

As an industry matures, players become more concerned about the manufacturing process and selling products (vs. product design). Most of the innovations in the table are not strategic; they are incremental improvements or applications of new knowledge about products or services. Also, outside factors can influence a company’s need to innovate.

Table: Types of Innovation with the Lifecycle of a Product or Industry

Growth Phase Maturity Phase Decline Phase
Types of Innovation 1. Product or Service Leadership 2. Customer Intimacy [vi] 3. Operational Excellence [vii] 4. Category Renewal
Disruptive [viii] Life-extension [ix] Value-engineering [x] Organic [xi]
Application [xii] Enhancement [xiii] Integration [xiv] Acquisition
Product [xv] Marketing [xvi] Process Change [xvii] Harvest and Exit [xviii]
Platform [xix] Change the experience [xx] Value-migration [xxi]

A large company that controls the standard gets high returns. Standards can be set by the government, agencies (like the American National Standards Institute), or are simply established by competitive markets. These standards can be proprietary or open. But why do standards emerge in some product markets and not in others?

To get standards adopted, there must be agreement among a group of firms, government mandates, or network externalities that create a dominant design. To achieve these results, entrepreneurs should work with producers of complementary technologies to make their technologies appealing. Use “increasing returns” concepts; when upfront costs are high and marginal costs are small, unit costs will drop dramatically as volume increases (as with drug and software production).

Network externalities result in the value of a product or service increasing with the number of people using it (e.g., email, dominant software, and the QWERTY keyboard). To achieve these results, consider the following actions:

  • Launch beta versions to gain a share of the market. For example, solar energy may be best to try a few designs to tests their efficacy.
  • Use a model that encourages consumers to constantly come back to you for products and services (e.g., buying razor blades from you for your razor).
  • Offer upfront components very inexpensively.
  • Provide incentives (e.g., cheaper subsequent version costs).
  • Ensure that complementary products and services are developed.
  • Attract customers first then make money; make large bets!
  • First-mover advantage is important. First-mover advantage can be a firm’s competitive advantage when it is first in a particular market or first to use a particular strategy; to the extent that a market has other first-mover advantages, innovation can help a firm to exploit those advantages. Thus, first-mover advantages on either the demand or supply side create a favorable climate for innovation. Markets tend to favor innovation by allowing firms to rapidly exploit early leads; [xxii] the more that a product, service, or lead time can be protected by property rights, the greater the advantage by first movers. Also, the greater the costs and risks of being first-to-market, the greater the importance of complementary resources. Finally, the greater the importance of product standards, the greater the advantage of being an early mover (to influence those standards.

Barriers to entry may come into play because they create a first-mover advantage within an industry. This consideration refers to entry into industries with incumbents earning high returns. New entrants may find themselves at a disadvantage relative to incumbents due to the existence of (1) pre-commitment contracts, (2) licenses and patents, (3) experience-curve effects, or (4) pioneering brand advantage. For example, new companies in sports equipment manufacturing have a hard time establishing brands for their products. So, they tend to produce for existing brands (e.g., Nike and New Balance).

If the industry has already converged on a dominant design and patent protection is weak, large companies can easily imitate a small firm. Success will depend largely on who has better marketing and manufacturing. This is where complementary assets are important. These are assets used along with your product (or a combination of assets) along the value chain and horizontal linkages. [xxiii] Incumbent firms that have existing manufacturing and marketing will typically do better than new firms. New firms, if they need manufacturing or marketing, should contract for the service. If complementary assets are specialized, this strategy of contracting will not work.

In conclusion, entrepreneurs can be successful if they adhere to a few pieces of advice that stem from research and practice. Once the entrepreneur develops his or her idea and conducts feasibility studies, it is important for the entrepreneur to continue training themselves in the innovation processes. How entrepreneurs present their ideas may determine whether or not they gain needed support – a subject of future blog posts.



Endnotes
:

[i] Adapted from Daniel S. Fogel (2016). Strategic Sustainability: A Natural Environmental Lens on Organizations and Management. New York, New York: Routledge: 294-300.

[ii] Diffusion of new ideas is higher for profitable ideas requiring low levels of specific capital. Technologically complex, hard-to-articulate innovations favor innovators over imitators. Licensing may be a way to credibly commit to users a moderate price path to encourage adoption of a new product. Here are some alternative models and considerations important to technology development:

  • Networks: using a firm’s network as a basis of competitiveness, rather than creating an organization that is self-contained.
  • Geographic clusters or agglomeration economies:
  • Disaggregating the value chain.
  • What is the role of the government? Should the government protect or invest in emerging technologies.

Most products develop dominant designs; some products go beyond this dominant design to the establishment of uniform technical standards. Network externalities are whenever the value of a product to an individual customer depends on the number of other users of that product (see discussion on demand-side increasing returns). These arise when products are networked together (telephone); availability of complementary products (lens and camera); and economizing on switching costs (widely used products decrease individual costs such as certain software).

In the long-run, innovators in most markets are eventually displaced in a Schumpterian process of creative destruction. Creative destruction is the process whereby old sources of competitive advantage are destroyed and replaced with new ones. The essence of entrepreneurship is the exploitation of the “shocks” or discontinuities that destroy existing sources of advantage. Successful innovators invest in creative search. In most technologies, the minimum efficient scale for innovation is moderate. Inasmuch as managers are agents in the firm and not owners, they will not face the right incentives to innovate. In most organizations, management reward structures discourage innovation by punishing failure more than rewarding success. Creating financial and cultural ownership in the firm by managers will lead to more innovation. Shared responsibility for projects encourages risk taking. Innovators may license innovations to rivals who are expected to be more efficient in the exploitation of that innovation due to the presence of complementary assets. Licensing may increase the speed with which the innovation enters the market. Innovators faced with capacity constraints will typically find it profitable to license small innovations to a rival. Industries where competition centers on innovation and the application of technology provide some of the most challenging and complex situations for applying strategy concepts and analysis.

[iii] Entrance strategy may vary according to the competitive situation. The issue for the entrant is how to avoid retaliation. Consider the following tactics:

  • oligopolistic competition
  • routines at the firm level
  • productive entrepreneurship
  • rule of law
  • technology selling and trading
  • firms must innovate to survive
  • firms embed competencies in routine behavior—reduces the firm’s risk

The incumbent firms have the advantage because they can get large returns from small improvements and minor technical improvements; innovation is the primary basis of competition. The engine of growth comes from a surprisingly small number of countries and industries.

[iv] Preemptive patenting may serve to reduce entry into a market. Patenting may reveal important information to rivals.

[v] R.C. Young and J.D. Francis, “Entrepreneurship and Innovation in Small Manufacturing Firms,” (Social Science Quarterly 72, no. 1, March 1991): 149–162.

[vi] Customer Intimacy Innovations: these are in order of migrating from closest to the product to closest to the customer. In general, this zone is keeping the product basically the same and changing a few features or ways the customer experiences the product.

[vii] Focuses on differentiating the supply side; the benefits are lowered costs and faster time to market.

[viii] Disruptive: new market categories based on discontinuous technology change or a disruptive business model (e.g., Napster, Apple iTunes)

[ix] Structural modifications to an existing offering to create distinctive subcategories (e.g., minivan introduction, running shoes, and computers for children).

[x] Extracts costs from materials and manufacturing of an established offering without changing external properties (e.g., TVs, PCs, and cell phones).

[xi] Using internal resources to gain an innovation. Generally, the company stays within the same sector but repositions its offering.

[xii] New markets for existing products by finding unexploited uses for them (e.g., use of fault-tolerant computers for ATMs and Apple computers for desktop publishing).

[xiii] Changing features closest to customer experience with little impact on the actual product or service (e.g., navigation systems in cars and Teflon in frying pans).

[xiv] Lowers the costs of integrating elements of a system or disparate parts (e.g., home entertainment centers and all-in-one printers).

[xv] Differentiating through changes to features and functions. Must be fast to market (e.g., hybrid engines, cameras in cell phones, and flat-screen technologies).

[xvi] Changes to the marketing mix other than products (e.g., new channels and pricing).

[xvii] Usual Six Sigma approach or value chain analysis (e.g., Dell and Wal-Mart).

[xviii] Comparing and contrasting these two methods is critical. Most observers agree that companies ultimately have to use organic growth to be continuously innovative.

[xix] Linking with other parts of the value chain or with complementary products and services (e.g., allowing PCs to be clones of IBM machines through software and chip designs).

[xx] Change the experience that the customer has (e.g., restaurants, business hotels, and coffeehouses).

[xxi] Building away from commoditizing. Moving up the chain (such as with answering machines to voicemail and component companies becoming systems integration service providers).

 [xxii] D. Besanko et al., Economics of Strategy, 3d ed. (Hoboken, NJ: John Wiley, 2004); see pp. 465–477.

“Early-mover advantages” are those that can be gained by moving early into a market: learning curve—can gain more learning than competitors; network externalities—when the more consumers that buy a product create demand-side increasing returns, hence creating an advantage to early movers; reputation and buyer uncertainty—once a firm’s reputation has been crafted, the firm will have an advantage competing for new customers, increasing the number of customer who have had successful trials, and thus, further strengthening its reputation; buyer switching costs—if buyers incur substantial switching costs, early movers can gain an advantage.

Early movers may fail to achieve the expected returns because of the lack of complementary resources (as we saw in the digital imaging industry). Early movers may bet on the wrong technologies, even if they have a patent. Finally, if adoption rates are very slow, first movers may be at a disadvantage, having to sustain their presence without return. If adoption rates are rapid and imitation rates slow because of patents or other reasons, then early movers make more sense, as in the case of pharmaceutical companies. These companies try to speed up their patent process because the adoption rate is very rapid for many drugs, having proven their effectiveness in terms of impact and market in clinical trials. Finally, first-movers are best when they can get their standard accepted—if they can’t they might want to wait.

[xxiii] Some young companies are successful if a dominant design exists. If the industry has not yet converged on a dominant design, then it is hard to say whether or not a new firm will capture the returns from a new product or service introduction. Success before a dominant design is in place depends on what product designs are favored by different niche markets and what design ultimately becomes dominant. If you come up with a design that appeals to a valuable niche market or a design that ultimately becomes the dominant design, then you can capture the returns from the introduction of new products or services.
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