Ebook Entrepreneurship (Second edition): Part 1

Ebook Entrepreneurship (Second edition): Part 1 includes the following content: Chapter 1 the power of entrepreneurship; chapter 2 the entrepreneurial process; chapter 3 opportunity recognition, shaping, and reshaping; chapter 4 understanding your business model and developing your strategy; chapter 5 entrepreneurial marketing; chapter 6 building the founding team; chapter 7 the business planning process; chapter 8 building your pro-forma financial statements.

Second Edition

William Bygrave Babson College

Andrew Zacharakis Babson College

John Wiley & Sons, Inc.

VICE PRESIDENT AND PUBLISHER GEORGE HOFFMAN

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Library of Congress Cataloging-in-Publication Data

Preface vii

1 The Power of Entrepreneurship 1

Entrepreneurship and Small Business in the United

States 2

Entrepreneurial Revolution 4

Web: Three Revolutions Converge 8

Entrepreneurship Revolution Strikes Gold 9

Creative Destruction 11

Causes of the Entrepreneurial Revolution 12

Changes in the Entrepreneurial Framework

Conditions 13

Churning and Economic Growth 18

Global Entrepreneurship Monitor 19

Principal Findings from GEM 20

2 The Entrepreneurial Process 49

Critical Factors for Starting a New Enterprise 50

Personal Attributes 52

Environmental Factors 52

Other Sociological Factors 54

Evaluating Opportunities for New Businesses 56

C ASE : A LISON B ARNARD 70

3 Opportunity Recognition, Shaping, and Reshaping 83

From Glimmer to Action: How Do I Come Up with a Good Idea? 84

Finding Your Passion 84 Idea Multiplication 85

Is Your Idea an Opportunity? 89 The Customer 89

The Competition 100 Suppliers and Vendors 103 The Government 103 The Global Environment 104 The Opportunity Checklist 104

‘‘I Don’t Have an Opportunity’’ 104

Marketing Strategy for Entrepreneurs 170 Segmentation, Targeting, and Positioning 170 The Marketing Mix 171

Guerrilla Marketing 182 Marketing Skills for Managing Growth 184 Understanding and Listening to the Customer 184 Building the Brand 185

 Your Opportunity Journal 186

General Outline: It Needs to Be Tailored to Meet Your

Research Needs 187

C ASE : C OLLEGE C OACH 189

6 Building the Founding Team 199

Power of the Team 200

Where Do You Fit? 201

How to Build a Powerful Team 205

Bootstrapping: Building the Team Based on

Stage-of-Venture Life 206

Compensation 208

Equity 208

Salary 213

Other Compensation Considerations 213

External Team Members 214

7 The Business Planning Process 235

The Planning Process 237

The Story Model 239

The Business Plan 240

The Cover 240

Executive Summary 240

Table of Contents 241

Industry, Customer, and Competitor Analysis 242

Company and Product Description 246

Revenue Projections 310 Cost of Goods Sold 311 Operating Expenses 311 Preliminary Income Statement 314 Comparable Method 315

Building Integrated Financial Statements 317 Income Statement 318

Balance Sheet 320 Cash-Flow Statement 321 Putting It All Together 322

 Your Opportunity Journal 323

C ASE : P’ KOLINO F INANCIALS 325

9 Financing Entrepreneurial Ventures Worldwide 337

Entrepreneurial Financing for the World’s Poorest 338 Microfinancing 338

Microcredit for the Poorest of the Poor 339 Entrepreneurs and Informal Investors 340 Amount of Capital Needed to Start a Business 342 Characteristics of Informal Investors 343

Financial Returns on Informal Investment 345 Supply and Demand for Startup Financing 346 Venture Capital 347

Classic Venture Capital 347 Importance of Venture Capital in the U.S Economy 350 Mechanism of Venture Capital Investing 352

Financial Returns on Venture Capital 354 Venture Capital in Europe 356

Factors Affecting Availability of Financing 357 Total Entrepreneurial Activity and Informal Investing 357

Factors Affecting Informal Investing 357 Factors Affecting Classic Venture Capital 357

Earnings Capitalization Valuation 381 Present Value of Future Cash Flows 382 Market-Comparable Valuation (Multiple of Earnings) 382

Asset-Based Valuation 383 Example of Market-Comparable Valuation 383

Informal Investors 387

Business Angels 388

Searching for Business Angels 390

Types of Business Angels 391

Putting Together a Round of Angel Investment 392

Venture Capital 393

Candidates for Venture Capital 393

Ideal Candidates for Venture Capital 394

Actual Venture-Capital-Backed Companies 395

Dealing with Venture Capitalists 396

Negotiating the Deal 398

Follow-On Rounds of Venture Capital 398

Harvesting Investments 399

Initial Public Offering 399

Pros and Cons of an IPO 400

The Process of Going Public 402

BFWS Goes Public 404

Selling the Company 404

A Strategic Acquisition: LowerMyBills.com 404

11 Debt and Other Forms of Financing 421

Getting Access to Funds—Start with Internal Sources 421

Start with Credit Cards and Home Equity Lines 422

Cash Conversion Cycle 423

Working Capital: Getting Cash from Receivables and

Inventories 424

Using Accounts Receivable as Working Capital 425

The Sales Pattern 426

Cash Versus Credit Sales 426

Cash from Short-Term Bank Loans 431

Cash from Trade Credit 431

Cash Obtained by Negotiating with Suppliers 432

Cash Available Because of Seasonal Business Credit

Terms 432

Advantages of Trade Credit 433

Cash Obtained by Tightening Up Accounts Receivable

Obtaining Loans against Inventory 435

Traditional Bank Lending: Short-Term Bank Loans 436 Maturity of Loans 437

Interest Rates 437 Collateral 438 Applying for a Bank Loan 439 Restrictive Covenants 439 General Provisions 439 Routine Provisions 440 Specific Provisions 441 Equipment Financing 441 Obtaining Early Financing from External Sources 442 SBA-Guaranteed Loans 442

Applying for an SBA Loan 442 Planning Cash Flow and Planning Profits 444

 Your Opportunity Journal 445

C ASE : F EED R ESOURCE R ECOVERY 447

12 Legal and Tax Issues 461

Leaving Your Present Position 462 Corporate Opportunity 462 Recruitment of Fellow Employees 463 Proprietary Information 463

Noncompetition 465 Choosing an Attorney and an Accountant 466 Choice of Legal Form 466

Control 467 Personal Liability 469 Taxation 470 Initial Investment of the Founders 472 Administrative Obligations 474 Choosing a Name 474

Stockholders’ and Operating Agreements 475 Negotiating Employment Terms 475 Disposition of Equity Interests 475 Distributions of Company Profits 477 Redemption Provisions 478

Legal and Tax Issues in Hiring Employees 478 Employees as Agents of the Company 478 Employment Discrimination 479

Other Employment Statutes 480 Employment Agreements 480 Equity Sharing 481

Insurance 482 Property Insurance 482 Liability Insurance 482 Key Person Life Insurance 483 Business Interruption Insurance 483 Group Life, Disability, and Health Insurance for Employees 483

Raising Money 483 Legal Issues in the Sale of Securities to Investors 483

 Your Opportunity Journal 485

C ASE : C ADENCE D ESIGN S YSTEMS AND A VANT ! (A) 487

13 Intellectual Property 499

The Basics: What Is Protectable and How Should It Be

Protected? 500

Patents 501

Obtaining a Utility Patent 501

Criteria for Obtaining a Utility Patent 503

Drafting the Patent Claims 504

Provisional Patent Applications 506

Patent Filing Deadlines 514

How to Extend Patent Filing Deadlines 514

Licensing and Technology Transfer 515

Common Concerns and Clauses 515

Defining the Property Being Licensed 516

Preparing Employment Contracts 521

Transfer of Employee Rights to Company

Innovations 521

How Employee Moonlighting Might Compromise

Confidentiality 522

Noncompetition Clauses 522

Preventing Employee Raiding 523

Employee Ownership of Copyright 524

Rights of Prior Employees 524

C ASE : C ADENCE D ESIGN S YSTEMS AND A VANT ! (B) 528

Making the Transition from Startup to Growth 532

Looking Forward: The Choice to Grow, or Not ,

or Sell 532

A Model of Driving Forces of Growth 534 The Growth Process 535

Execution 535 Instituting Controls 535 Tracking Performance 537 Managing the Cash Cycle 538 Leveraging the Value Chain 540 Maintaining the Entrepreneurial Organization 540 Opportunity Domain 541

Organizational Resources and Capabilities 544 Obtaining Financial Resources for the Growing Company 544

Intangible Resources and Capabilities 545 Leadership 546

Starting the Delegation Process 547 First-Level Management 548 From Delegation to Decentralization 549 Professional Management and Boards 549 Coordinating the Driving Forces 550 Leading People; Developing Entrepreneurs 550

For-Profits 569 New Forms of Organizations 570 Getting Started 571

Identifying an Opportunity 571 Forming an Organization 573 Securing Resources 575 Evaluating Results 576 Going to Scale 578

The green shoots of entrepreneurship give an economy its vitality They give rise to newproducts and services, fresh applications for existing products and services, and new ways ofdoing business Entrepreneurship stirs up the existing economic order and prunes out the deadwood Established companies that fail to adapt to the changes cease to be competitive in themarketplace and go out of business.

Within the broadest definition, entrepreneurs are found throughout the world of businessbecause any firm, big or small, must have its share of entrepreneurial drive if it is to survive andprosper This textbook focuses on starting and growing independent new ventures It is based

on entrepreneurship courses taught at Babson College and at universities around the world.One of the most common questions that entrepreneurship educators are asked is,Can entrepreneurship be taught? Our response is that anyone with a desire to become anentrepreneur will be more successful if he or she has taken a course on how to start and grow

a new venture About 30% of the students who have taken the new-venture course at BabsonCollege since 1985 have gone on to start full-time businesses at some time in their careers.Many have started more than one

While this textbook empowers would-be entrepreneurs to start and grow their newventures, it’s not only for them Any student who reads this book will learn about theentrepreneurial process and the role of entrepreneurship in the economy We believe that allbusiness students, whether or not they start a new business, will benefit from learning aboutentrepreneurship After all, entrepreneurship and small business create most of the jobs in theU.S economy and account for almost half the GDP They are ubiquitous, and so integral tothe economy that almost every student will work in one way or another with entrepreneursand small businesses after graduation This textbook will stand students in good stead—notonly for starting their own firms, but also for dealing with startups as investors, bankers,accountants, lawyers, customers, vendors, employees, landlords, and in any other capacity

An entrepreneurial revolution has transformed the economy since the mid-1970s Central

to that revolution is information technology, especially personal computers and the Internet.Information technology has profoundly changed the way companies do business, none more

so than startup companies Today’s students were born after the personal computer cameinto common use, and they came of age in the era of the Web We believe they need anentrepreneurship text in which information technology is completely integrated all the waythrough

This book combines concepts and cases to present the latest theory about entrepreneurshipand relate actual experiences The concepts cover what would-be entrepreneurs need to know

to start and grow their businesses, and the cases illustrate how real entrepreneurs have goneout and done it They cover all stages of the entrepreneurial process, from searching for anopportunity to shaping it into a commercially attractive product or service, launching the newventure, building it into a viable business, and eventually harvesting it

Chapter 1 discusses the role of entrepreneurship in the U.S economy and looks at theentrepreneurial competitiveness of nations throughout the world Chapter 2 is an overview ofthe factors critical for starting a new enterprise and building it into a successful business.Chapters 3 through 8 look in detail at what budding entrepreneurs need to do beforethey open their doors for business The section starts with searching for opportunities andevaluating them It explains how to build a workable business model and covers marketing,

their ventures.

The next section, Chapter 9 through 11, deals with financing businesses Chapter 9reviews the sources of financing for starting and growing businesses, both in the United Statesand worldwide Chapter 10 discusses the nuts and bolts of raising money, particularly equity,

to start and grow a business Chapter 11 examines debt and other sources of financing.Entrepreneurs need to understand the legal and tax issues associated with organizing anew business They also need to know how to protect their intellectual capital Chapters 12and 13 explore these topics

Anyone can start a new venture, but very few new businesses grow into substantialenterprises Chapter 14 discusses what it takes to grow a business into a healthy company thatprovides financial rewards for the entrepreneur and good jobs for employees

Finally, Chapter 15 looks at social entrepreneurship Today, many students are looking

at business ideas that may not only earn a profit, but also address a social concern

Each chapter is accompanied by a case study of entrepreneurs in action We chose thecases carefully, using these criteria:

• The entrepreneurs and their companies represent a spectrum of situations and industries

that is as broad as we could make it

• The judgment point in most cases occurs in the twenty-first century—some as recently

as 2008 and 2009

• All stages of the entrepreneurial process are covered, from pre-startup through harvest.

• Almost all the entrepreneurs in the cases are in their 20s and 30s; some are recent

graduates

There’s no substitute for the experience gained from actually starting a business, but webelieve that by completing the case studies in this book students will gain wisdom that wouldtake years to pick up by trial and error as entrepreneurs starting and building businesses fromscratch

Each chapter ends with a unique Opportunity Journal Here students can reflect on thelessons learned and think about how to apply them to their own entrepreneurial ventures, or

to managing their careers Finally, a Web exercise builds upon key concepts covered in eachchapter

New to this Edition

The second edition has been thoroughly updated and enhanced throughout Since the firstedition, the U.S and world have seen increasing turmoil: the great recession; continuingwars in Iraq and Afghanistan; a major oil spill in the Gulf of Mexico; earthquakes in Haitiand Chile; and an ongoing debate over climate change, just to name a few issues To thatend, we’ve noticed that more students than ever before are interested in not only creatinggreat companies, but also addressing social issues Thus, we’ve added Chapter 15 on SocialEntrepreneurship, written by our colleague John Whitman John has created a number ofcutting edge courses on Social Entrepreneurship In Chapter 15, he uses his expertise to talkabout different organization structures and how entrepreneurs can create companies that have

a double or triple bottom line We’ve also added some new cases that illustrate ventures with

a strong social objective In addition to the Jim Poss case from the first edition, now the textincludes a case on Feed Resource Recovery, a business that converts food waste into energy andorganic fertilizer, and on Earthwatch, the story of a social enterprise that uses eco/adventuretourism to fund research on important earth science initiatives

company desperately in need of growth capital, addressing how entrepreneurs should manage

the board and articulate their plan in seeking equity financing Finally, College Coach looks

at how a new venture identifies and tests various distribution channels to reach the customer

With these changes, we are confident that the second edition of Entrepreneurship, not

only continues our mission of empowering and enabling young entrepreneurs, but enhances it

Teaching Supplements

Instructor’s Manual

The Instructor’s Manual has been designed to facilitate convenient lesson planning and

includes the following:

frequency and duration of your class period

chapter content

each chapter’s accompanying case They include discussion questions, classroom activities,

and additional information on the businesses and entrepreneurs from the cases

This comprehensive resource can be found on the Instructor Companion Site at

www.wiley.com/college/bygrave

PowerPoint Slides

A robust set of PowerPoint slides gives you the ability to completely integrate your classroom

lecture with a powerful visual statement of chapter material The entire collection of

roughly 150 slides is available for downloading from the Instructor Companion Site at

www.wiley.com/college/bygrave

Test Bank

With 60 questions per chapter, the test bank consists of multiple choice, true/false, and short

answer questions of varying difficulty A computerized version of this test bank is also available

on the Instructor Companion Site so that you can customize your quizzes and exams Access

these resources at www.wiley.com/college/bygrave

Additional Cases

In addition to the 15 cases included in the book, 15 additional cases, available on the book’s

companion site, give instructors more choices and give students more real-life examples Cases

available online include:

Andres Galindo

Alexander Norman and Toni Randolph-Norman

ClearVue

Matt Grant

Makers Mark Vayusa (the Ajay Bam second case) Beautiful Legs by Post

Living Patio Rooms Neverfail

Matt Coffin Jon Hirschtick SolidWorks (the Jon Hirschtick second case) David Pearlman

StudentCity.Com Nancy’s Coffee

Video Cases (DVD)

Eleven videos accompany cases from the book, engaging students and giving them theopportunity to hear first-hand accounts from the entrepreneurs themselves Available onDVD for instructors, these videos are ideal lecture launchers and a great way to grab a class’sattention Ask your local Wiley representative for more information Video cases include:

Malincho Alison Barnard Jim Poss Adam Aircraft College Coach Ajay Bam P’kolino DayOne BladeLogic Feed Resource Recovery

Acknowledgments

A comprehensive textbook on entrepreneurship covers a very wide range of disciplines thatrequire specialized knowledge, so we invited leading experts to write some of the chapters

• Entrepreneurial marketing is an emerging academic discipline; two of its leading experts

are Abdul Ali at Babson College and Kathleen Seiders at Boston College, who wroteChapter 6, ‘‘Entrepreneurial Marketing.’’

• Joel Shulman, Babson College, who specializes in entrepreneurial finance, contributed

Chapter 11, ‘‘Debt and Other Forms of Financing.’’

• Legal and tax issues go hand in hand when setting up a new business; Richard Mandel,

who is a Babson professor and a partner with the law firm Bowditch and Dewey thatspecializes in small business, wrote Chapter 12

• Businesses increasingly depend on intellectual know-how, which must be safeguarded

just as carefully as physical assets Chapter 13, ‘‘Intellectual Property,’’ was authored byJoseph Iandorio and Kirk Teska, who are patent attorneys in the firm that bears theirnames

• Professor John Whitman of Babson College wrote Chapter 15 Whitman has developed

cutting edge classes in social entrepreneurship

We thank all the contributing authors for their commitment and dedication to making

this book as valuable as it can be for students

We are forever indebted to everyone involved in the entrepreneurial process who

has shared experience and wisdom with us They include entrepreneurs from novices to

old hands, informal investors, business angels, venture capitalists, bankers, lawyers, and

landlords—indeed, anyone involved with entrepreneurs We have learned so much from

them We’re especially thankful for all the students and alumni we have worked with over the

years Their feedback has helped us shape what we teach, and how we teach it

We believe that entrepreneurs who successfully build businesses are inherently good

coaches and teachers; they have to be if they are to develop and encourage employees

This generosity is borne out by their willingness to share their know-how with budding

entrepreneurs One important way in which entrepreneurs have done that is by allowing us

to write cases about them and their companies, and then by coming to class when the cases

are discussed We make a video of each entrepreneur in a question-and-answer session with

students immediately after the case is taught for the first time Those videos, which are an

integral part of the case study, are available to instructors using this textbook

A huge ‘‘thank you’’ to the principals featured in the case studies in this book and on its

companion Website They are Kalin Pentchev, Andres Galindo, Alison Barnard, Matt Grant,

Stephen Kramer, Michael London, Jim Poss, Voislav Damevski, Rick Adam, John Hamilton,

Taran Lent, Brooks O’Kane, Bill Samuels, Jr., Ajay Bam, Elizabeth Preis, Andrew Zenoff,

Matt Coffin, Axel Bichara, Jon Hirschtick, John Esler, Beth Wood-Leidt, Mario Ricciardelli,

Steve Duplessie, Alexander Norman, Antonio Turco-Rivas, J.B Schneider, Toni Randolph

Norman, Dev Ittycheria, Dave Tabors, Dan Hermann, Joel Pedlikin, Reg Mathelier, Brian

Rosborough, and Shane Eten

We thank all the case writers who researched and wrote the cases in this book and on its

companion Website Carl Hedberg, who wrote many of the cases, deserves special recognition

We’d also like to thank our student research assistants, who helped track down relevant

examples in the popular press, acted as our first-draft readers, and worked hard on the

instructional support materials; they are current and former Babson MBA students Rich Enos,

Richard Raeke, Alexey Amerikov, Ge Song, Sara Gragnolati, Brian Zinn, Henry McGovern,

and Mark Itkovitz

It is a pleasure to be members of the Arthur M Blank Center for Entrepreneurship at

Babson College Our Babson colleagues are an inspiration They are pioneers of

entrepreneur-ship education who are continually coming up with new ways of teaching The Babson

faculty comprises a marvelous mix of academics and what we call ‘‘pracademics’’—practicing

academics—who are entrepreneurs, venture capitalists, angel investors, lawyers, and others

associated day-to-day with starting and running businesses Candida Brush, chairperson of

the entrepreneurship department and director of the Babson Arthur M Blank Center for

Entrepreneurship has been highly supportive We have benefited from discussions with Ed

Marram, Brian Abraham, Fred Alper, Jean-Luc Boulnois, Mike Caslin, Les Charm, Alan

Cohen, Mike Gordon, Len Green, Tim Habbershon, Neal Harris, Bill Johnston, Glenn

Kaplus, Donna Kelley, Julian Lange, Nan Langowitz, Maria Minniti, Kevin Mulvaney,

Heidi Neck, Ernie Parizeau, Elizabeth Riley, Patricia Greene, Eric Noyes, Brad George,

Yasu Yamakawa, and Joel Shulman, all of whom teach at Babson College We’d also like

to acknowledge two of our biggest supporters and mentors who passed away since the first

edition was published, Jeffry Timmons and Natalie Taylor Their long time influence and

contributions to Babson College was invaluable We miss them

entrepreneurship education Michael Fetters, formerly provost, encouraged us to write thisbook and gave us permission to include the cases in the book Fritz Fleischmann, former dean

of faculty, eased our labor by supporting sabbatical leaves for both of us William Lawler,former associate dean of the graduate school, provided financial support for the writing ofsome of the cases; David Wylie edited some of them; and Valerie Duffy made sure that thecase collection was up to date

We are thankful for the financial support we received from the benefactors of the Frederic

C Hamilton Chair for Free Enterprise and the John H Muller, Jr Chair for Entrepreneurship

We greatly appreciate all the help that we received from the staff at Wiley and itsaffiliates Lise Johnson, Executive Editor and Sarah Vernon, Assistant Editor were a continualsource of inspiration and encouragement Hilary Newman organized the selection of pictures.Joyce Poh did a fine job of line editing our manuscript

Many reviewers offered thoughtful suggestions that have improved this book We areindebted to every one of them:

Richard Benedetto, Merrimack College Lowell Busenitz, University of Oklahoma Pat H Dickson, Georgia Institute of Technology Hung-bin Ding, Loyola University

William Gartner, Clemson University Todd A Finkle, University of Akron Vance H Fried, Oklahoma State University Jeffrey June, Miami University of Ohio Mark Lieberman, USC Marshall School of Business Heidi Neck, Babson College

William R Sandberg, University of South Carolina P.K Shukla, Chapman University

Finally, we are both indebted to our families, our patient and supportive wives, and ourbeautiful and talented children Thank you for being so understanding when we were pushinghard to meet our deadlines

A P T E R 1

(left photo) Bill Gates (bottom left) and Paul Allen (bottom right) with the Microsoft team in December 1978 The

company, then almost 4 years old, had annual revenue of $1.4 million For the fiscal year ended June 30, 2009,

Microsoft’s annual revenue was $58.4 billion and it had 95,736 employees.

(right photo) Warren Buffett speaks to the media with Bill and Melinda Gates June 26, 2006 at a news conference

where Buffett spoke about his financial gift to the Bill and Melinda Gates Foundation in New York City Buffett,

ranked as the second-richest man in the world–just behind Bill Gates, said his $31 billion of Class B shares of Berkshire

Hathaway stock, will go to the foundation where it will be put to use in work with health and education programs in

underprivileged countries (Source: (left photo): Courtesy Microsoft; (right photo) Spencer Platt/Getty Images, Inc.)

THE POWER OF ENTREPRENEURSHIP

This is the entrepreneurial age More than 500 million persons worldwide either were actively

involved in trying to start a new venture or were owner-managers of a new business in 2010.1

More than fifteen hundred new businesses are born every hour of every working day in

the United States Entrepreneurs are driving a revolution that is transforming and renewing

economies worldwide Entrepreneurship is the essence of free enterprise because the birth of

new businesses gives a market economy its vitality New and emerging businesses create a very

large proportion of the innovative products and services that transform the way we work and

live, such as personal computers (PCs), computer software, the Internet and the World Wide

Web (WWW or Web), biotechnology drugs, overnight package deliveries, and big-box stores

They generate most new jobs; from 1993 through the third quarter of 2008, companies with

500 or fewer employees created 64% of all new jobs in the United States.2

There has never been a better time to practice the art and science of entrepreneurship But

what is entrepreneurship? Early in the 20th century, Joseph Schumpeter, the Moravian-born

economist writing in Vienna, gave us the modern definition of an entrepreneur: a person who

destroys the existing economic order by introducing new products and services, by introducing

new methods of production, by creating new forms of organization, or by exploiting new raw

materials According to Schumpeter, that person is most likely to accomplish this destruction

by founding a new business but may also do it within an existing one

Schumpeter explained how entrepreneurs had suddenly increased the standard of living

of a few industrialized nations.3 When the Industrial Revolution began in England around

1760, no nation had enjoyed a standard of living equal to that of Imperial Rome 2,000 years

earlier But from 1870 to 1979, for example, the standard of living of 16 nations jumped

sevenfold on average.4

Very few new businesses have the potential to initiate a Schumpeterian ‘‘gale’’ of creative

destruction, as Apple Computer did in the computer industry The vast majority enter

existing markets So, in this textbook, we adopt a broader definition of entrepreneurship

than Schumpeter’s Ours encompasses everyone who starts a new business Our entrepreneur

is the person who perceives an opportunity and creates an organization to pursue it And

the entrepreneurial process includes all the functions, activities, and actions associated with

perceiving opportunities and creating organizations to pursue them Our entrepreneur’s new

Google are now doing But it is much more likely to be of the incremental kind that enters anexisting market.

The Changing Economy

General Motors was founded in 1908 as a holding

company for Buick On December 31, 1955, General

Motors became the first American corporation to make

over one billion dollars in a year At one point, it was

the largest corporation in the United States in terms of

its revenues as a percentage of gross domestic

prod-uct (GDP) In 1979, its employment in the United States

peaked at 600,000 In 2008, General Motors reported

a loss of $30.9 billion and burned through $19.2 billion

in cash In a desperate attempt to save the company in

February 2009, GM announced plans to reduce its total

U.S workforce from 96,537 people in 2008 to between

65,000 and 75,000 in 2012 By March 2009, GM, which

had already received $13.4 billion of bailout money

from the U.S government, was asking for an additional

$16.6 billion The Obama administration forced GM’sCEO, Rick Wagoner, to resign; his replacement, FritzHenderson, said that bankruptcy was a real possibility

It became a reality when GM filed for bankruptcy inJune and emerged a shrunken company 40 days later.Walmart was founded by Sam Walton in 1962 Forthe fiscal year ending on January 31, 2009, Walmarthad record sales of $401.2 billion, record earnings of

$13.4 billion, and free cash flow of $4.2 billion mart is the world’s largest corporation, with 2.1 millionassociates and 8,291 stores in 2009

Wal-‘‘We’re all working together; that’s the secret And we’ll lower the cost of living for everyone, not just in America, but we’ll give the world an opportunity to see what it’s like to save and have

a better lifestyle, a better life for all We’re proud of what we’ve accomplished; we’ve just begun.’’

—Sam Walton (1918–1992)

In this chapter, we will look at the importance of entrepreneurship and small business

to the U.S and the global economies, describe the entrepreneurial revolution, present aconceptual model for the entrepreneurial sector of the economy, and use it to explain majorfactors in the revolution; finally, we will compare and contrast entrepreneurial activity amongnations within the context of the conceptual model

Entrepreneurship and Small Business in the

Not only are small businesses the engine for job creation, but also they are a powerfulforce for innovation They hire 40% of all high-tech workers and produce approximately

13 times more patents per employee than large firms; those patents are twice as likely as largefirm patents to be among the one percent most cited.8Their share of U.S research and devel-opment (R&D) grew from 5.9% in 1984 to an estimated 20.7% in 2003, with the dollar valuegrowing from $4.4 billion in 1984 to an estimated $40.1 billion in 2003—a ninefold increase.9

in addition to the self-employed owner.10Approximately two-thirds of the full-time businesses

are unincorporated and one-third are incorporated

At any one time, approximately 7 million nascent entrepreneurs in the United States are

trying to create a new business; they have conceived an idea for a new venture and have taken

at least one step toward implementing their idea Many of them abandon their ventures during

the gestation period and never actually open their businesses; nonetheless, each year at least

3 million new ventures are born, of which about 75% start from scratch Most of the others

are purchases of existing businesses.11Two in every three businesses are started in the owner’s

home Most remain tiny because they are part-time businesses, but around 650,000 have at

least one full-time employee

A survey by ACNielsen International

following:12

dreamed of starting a business andbecoming their own boss

• The most common reason for ing to start a business is to increaseone’s personal income (66% ofrespondents), followed by increasedindependence (63%)

want-• The primary barriers to starting abusiness are insufficient financialresources (cited by 49% of respon-dents) and satisfaction with theircurrent situation (29%)

Survival rates for new businesses were the focus of several different

studies.13 One of the most thorough was done at the U.S Census

Bureau by Alfred Nucci, who calculated the 10-year survival rates

of business establishments.14 He found that 81% survive for at least

1 year, 65% for 2 years, 40% for 5 years, and 25% for 10 years The

survival rate for independent startups was slightly lower For example,

the one-year rate was 79% instead of 81% The chance of survival

increased with age and size Survival rates also varied somewhat with

industry but not as strongly as with age and size

Of course, survival does not necessarily spell success In general,

the median income of small business owners is almost the same as

that of wage and salary earners However, the income distribution

is much broader for small business owners, which means that they

are more likely to have significantly less income or significantly more

income than wage and salaried workers.15 But small business owners

are also building equity in their companies as well as taking income

from them, so it is possible that small business owners are better off

overall than their wage-earning cohorts However, a study of business

owners disposing of their businesses through sale, closure, passing it on,

and other methods found that comparatively few saw their standard

of living changed by their business Only 17% reported that their

business had raised their standard of living, while 6% reported the

opposite.16

Small businesses are distributed throughout the United States but

not uniformly The proportion of full-time self-employed by state in

1999 ranged from a high of 14.9% for Alaska to a low of 7.3% for Missouri In rural areas,

10.0% were self-employed, which was almost one percentage point higher than the national

average.17In 1997, 40% of small businesses were in service industries, 20% in retail, 12% in

construction, 8% in wholesale, 8% in finance, 6% in manufacturing, 4% in transportation

and communications, and 2% in agricultural services.18

Looking back at the new business formation index, we can see that it was stable through

the 1950s and most of the 1960s; there was virtually no growth By 1970, net new business

formation was growing, and the growth continued through the 1970s and 1980s and into the

1990s.19 No one noticed the change at the time One of the first documented references to

what was taking place was a December 1976 article in The Economist called ‘‘The Coming

Entrepreneurial Revolution.’’20 In this article, Norman Macrae argued that the era of big

business was drawing to an end and that future increases in employment would come mainly

from either smaller firms or small units of big firms In 1978, David Birch published his

book Job Creation in America: How Our Smallest Companies Put the Most People to Work.21

No issue gets the attention of politicians more than job creation Birch’s findings andthe stream of research that ensued forever changed the attitude of policy makers towardsmall business.22Until then, most of their focus had been on big business After all, in 1953Charles Erwin Wilson, then GM president, is reported to have said during the hearings beforethe Senate Armed Services Committee, ‘‘What’s good for General Motors is good for thecountry.’’ At the time, GM was one of the largest employers in the world—only Soviet stateindustries employed more people.23

Entrepreneurial Revolution

On November 1, 1999, Chevron, Goodyear Tire & Rubber Company, Sears Roebuck, andUnion Carbide were removed from the Dow Jones Industrial Average (DJIA) and replaced byIntel, Microsoft, Home Depot, and SBC Communications Intel and Microsoft became thefirst two companies traded on the NASDAQ exchange to be listed in the DJIA

This event symbolized what is now called the entrepreneurship revolution that transformed

the U.S economy in the last quarter of the 20th century Intel and Microsoft are thetwo major entrepreneurial driving forces in the information technology revolution that hasfundamentally changed the way in which we live, work, and play SBC (formerly SouthwesternBell Corporation) was one of the original ‘‘Baby Bells’’ formed after the U.S Department ofJustice antitrust action resulted in the breakup of AT&T It is an excellent example of howbreaking up a monopoly leads to entrepreneurial opportunities And Home Depot exemplifiesthe big-box stores that have transformed much of the retail industry

Intel was founded in Silicon Valley by Gordon Moore and Robert Noyce and funded byArthur Rock, the legendary venture capitalist Gordon Moore, the inventor of Moore’s Law,24

and Robert Noyce, one of the two inventors of the integrated circuit,25had been at the birth

of Silicon Valley with William Shockley, the co-inventor of the transistor, when ShockleySemiconductor Laboratory was founded in Mountain View in 1956 They left Shockley in

1957 to found Fairchild Semiconductor, which in 1961 introduced the first commercialintegrated circuit In 1968, they left Fairchild to start Intel

Ted Hoff, employee number 12 at Intel, invented the microprocessor in 1968 In

1971, Intel launched the first commercial microprocessor, heralding a new era in integratedelectronics Then, in 1974, it launched the first general-purpose microprocessor, the Intel

8080, which was the brain of the first personal computer,26the Altair 8800—a $439 hobbyist’skit—announced by MITS (Micro Instrumentation and Telemetry Systems of Albuquerque)

on the front cover of the January 1, 1975, edition of Popular Electronics.

‘‘When I was 19, I caught sight of the future and

based my career on what I saw I turned out to

have been right.’’

—Bill Gates

According to personal computer folklore, Paul Allen, then working

at the minicomputer division of Honeywell in Massachusetts, hurried

to his childhood friend and fellow computer enthusiast, Bill Gates,

who was a Harvard sophomore, and waving Popular Electronics with

a mock-up of the Altair 8800 on its front cover, exclaimed, ‘‘This isit! It’s about to begin!’’ Within a month or so, Gates had a version

of BASIC to run on the Altair He and Allen joined together in aninformal partnership called Micro-Soft and moved to Albuquerque.Microsoft grew steadily by developing software for personal com-puters By 1979, it had moved to Bellevue, Washington, near Seattle,where Gates and Allen had grown up It then had revenue of more than $2 million and

28 employees It got its big break in 1980–81 when, building on the core of a productacquired from Seattle Computer Products, Microsoft introduced MS-DOS for IBM’s first

PC Fourteen years later, when Microsoft released Windows 95 in 1995, it sold 4 million

Internet capabilities to its products When Microsoft joined the DJIA in 1999, there were

more than 200 million Internet users, up from 3 million just five years earlier

SBC came about in 1984 because of the breakup of

AT&T SBC’s growth has come mainly through

acqui-sitions, so we are not making the case that SBC itself

is especially entrepreneurial However, the breakup of

AT&T did unleash a wave of entrepreneurship that

pro-duced the explosive growth of the telecommunications

industry in the last 20 years According to a recent survey,

the top five innovations since 1980 are the Internet, cell

phones, personal computers, fiber optics, and e-mail.27

No doubt about it, the phenomenal growth of wireless

communications and the Internet would not have

hap-pened if AT&T had been allowed to keep its pre-1983

stranglehold on the telecom industry (AT&T floundered

after it was broken up In 2004, it was dropped from the

DJIA, and in 2005, it was acquired by SBC, which then

adopted AT&T, Inc., as its corporate name; as a result,

AT&T’s legendary ‘‘T’’ ticker symbol on the New York

Stock Exchange returned to the DJIA.)

Home Depot was founded in 1979 by Bernie

Marcus and Arthur Blank The chain of hardware and

do-it-yourself (DIY) stores holds the record for the

fastest time for a retailer to pass the $30 billion, $40

billion, $50 billion, $60 billion, and $70 billion annual revenue milestones It is the second

largest retailer in the United States, surpassed only by Walmart And it almost set the record

for the fastest time from starting up to joining the DJIA when it was only 20 years old By

comparison, Walmart was 35 years old when it displaced F W Woolworth in the DJIA Along

with Walmart, Home Depot has set the pace for the retail industry in the last two decades

Together, the two account for about 3% percent of the nation’s GDP and 1.7 million jobs

At the turn of the 20th century, about 50% of

U.S workers were employed in agriculture and

domestic service Less than 100 years later, the

number was about 4% Much of this

transforma-tion came about because innovatransforma-tions, many of

them introduced by entrepreneurs, made

agricul-ture a shining example of increasing

productiv-ity, and labor-saving products such as the

vac-uum cleaner, gas and electric ranges, washing

machines and clothes dryers, dishwashers,

automo-biles, lawn mowers, floor polishers, processed foods,

microwave ovens, and services increased the

pro-ductivity of household labor The proportion of

the workforce in manufacturing grew from 19% in

1900 to 27% in 1950, thereby providing alternative

employment opportunities for farm laborers anddomestic workers

By the turn of the 21st century, only 15% of U.S.jobs were in manufacturing and about 40% were

in service industries; the proportion of based jobs was estimated to be more than 50%.The DJIA reflects the changing face of the U.S.economy: In 1896, the 12 companies that made

knowledge-up the DJIA reflected the dominance of ture and basic commodities; in 1928—the first timethe DJIA comprised 30 companies—the membersreflected the importance of manufacturing, retailing,and the emerging radio industry; and in 2010, theshift is toward knowledge-based and communicationsindustries

agricul-1896 1928 2010

American Tobacco American Smelting & Refining American Express

Distilling & Cattle Feeding American Tobacco Bank of America

Tennessee Coal, Iron & Railroad General Motors Coca-Cola

International Harvester General Electric International Nickel Hewlett-Packard

Paramount Publix Johnson & Johnson

Victor Talking Machines United Technologies

On April 8, 2004, International Paper, AT&T, and Eastman Kodak were replaced with Pfizer, Verizon, and AIG On

February 19, 2008, Bank of America and Chevron replaced Altria and Honeywell AIG was replaced by Kraft Foods on

September 22, 2008, and both Citigroup and GM were replaced by The Travelers Companies and Cisco Systems on June 8,

2009 SBC acquired AT&T and changed its name to AT&T.

Of course, only a few of the entrepreneurial giants ever get into the DJIA, which

is composed of only 30 of the most widely held stocks The following are some of theother legendary entrepreneurs and their companies that played important roles in theentrepreneurship revolution of the last 30 years

Perhaps one of the most revolutionary entrepreneurial ideas outside of high-tech industrieswas Fred Smith’s notion to deliver packages overnight anywhere in the United States Smithidentified a need for shippers to have a system designed specifically for airfreight that couldaccommodate time-sensitive shipments such as medicines, computer parts, and electronics in

a term paper that he wrote as a Yale undergraduate Smith’s professor did not think much ofthe idea and gave it a C After tours of duty in Vietnam, Smith founded his company, FederalExpress (FedEx) in 1971, and it began operating in 1973 out of Memphis InternationalAirport In the mid-1970s, Federal Express had taken a leading role in lobbying for air cargoderegulation, which finally came in 1977 These changes allowed Federal Express to use larger

In 1971, when Southwest Airlines began operations, interstate airline travel was highly

regulated by the federal government, which had set up the Civil Aeronautics Board (CAB)

in 1938 to regulate all domestic air transport as a public utility, setting fares, routes, and

schedules The CAB was required to ensure that the airlines had a reasonable rate of return

Most of the major airlines, whose profits were virtually guaranteed, favored the system Not

surprisingly, competition was stifled, and almost no new airlines attempted to enter the

market However, intrastate passenger travel was not regulated by the CAB, so Southwest,

following the pioneering path of Pacific Southwest Airline’s (PSA’s) service within California,

initiated passenger service within Texas The success of PSA and Southwest in providing cheap

airline travel within California and Texas provided powerful ammunition for the deregulation

of interstate travel, which came about in 1981 as a consequence of the Airline Deregulation

Act of 1978.29Since deregulation, more than 100 startup airlines have inaugurated interstate

scheduled passenger service with jet aircraft.30Herb Kelleher, the charismatic co-founder of

Southwest Airlines, is often credited with triggering airline deregulation by persevering with

his legal battle to get Southwest airborne in the face of fierce legal opposition from Braniff,

Trans-Texas, and Continental Airlines Two of those airlines took their legal battle all the way

to the U.S Supreme Court, which ruled in Southwest’s favor at the end of 1970.31

Robert Swanson was 27 when he hit upon the idea that a company could be formed

to commercialize biotechnology At that time, he knew almost nothing about the field By

reading the scientific literature, Swanson identified the leading biotechnology scientists and

contacted them ‘‘Everybody said I was too early—it would take ten years to turn out the

first microorganism from a human hormone or maybe twenty years to have a commercial

product—everybody except Herb Boyer.’’32Swanson was referring to Professor Herbert Boyer

at the University of California at San Francisco, co-inventor of the patents that, according to

some observers, now form the basis of the biotechnology industry When Swanson and Boyer

met in early 1976, they almost immediately agreed to become partners in an endeavor to explore

the commercial possibilities of recombinant DNA Boyer named their venture Genentech, an

acronym for genetic engineering technology Just seven months later, Genentech announced

its first success, a genetically engineered human brain hormone, somatosin According to

Swanson, they accomplished 10 years of development in 7 months Most observers say it was

Swanson’s entrepreneurial vision that brought about the founding of the biotech industry

Today there are about 1,500 U.S biotech companies with combined revenues of more than

$50 billion

At almost the same time that Swanson was starting Genentech in southern San Francisco,

not many miles away Steve Jobs and Stephen Wozniak were starting Apple Computer in

Silicon Valley Their computer, the Apple I in kit form, was an instant hit with hobbyists

The Byte Shop—the first full-time computer store anywhere in the world, which opened in

Silicon Valley in December 1975—ordered 25 of them in June 1976 The owner of The

Byte Shop asked Jobs to put the Apple I computer board in a case because his customers were

asking for complete units, not just kits When they did so, both Apple and The Byte Shop had

a hot product on their hands The Byte Shop grew to a chain of 75 stores ‘‘Without intending

to do so, Wozniak and Jobs had launched the microcomputer by responding to consumer

demand.’’33

Genentech’s initial public offering (IPO) in October 1980, followed by Apple’s IPO only

two months later, signaled that something magical was stirring in the biotech and personal

computer industries It triggered a wave of venture capital investment and IPOs in both

industries

A tipping point in the infant personal computer industry was the introduction of the

VisiCalc spreadsheet Dan Bricklin conceived it when he was sitting in an MBA class at Harvard

in 1978, daydreaming about how he could make it easier to do repetitive calculations Bricklin

their first version in May 1979, it turbocharged the sale of Apple computers Subsequently,sales of IBM PCs were rocketed into the stratosphere by Mitch Kapor’s Lotus 1-2-3 worksheet.The late 1970s and the early 1980s were miraculous years for entrepreneurial ventures

in the computer industry Miniaturization of hard-disk drives, a vital component in theinformation technology revolution, was pioneered by Al Shugart, first at Shugart Associates,then at Seagate Technology Dick Eagan and Roger Marino started EMC Corporation in

1979, initially selling computer furniture, and with the seed money from that, they launchedinto selling Intel-compatible memory From that beginning, Eagan and Marino built EMCinto a company that during the 1990s achieved the highest single-decade performance of anylisted stock in the history of the New York Stock Exchange Today it is the dominant company

in the data storage industry

Robert Metcalfe, the inventor of Ethernet, founded 3Com in 1979 to manufacturecomputer network products 3Com built its business around Ethernet plug-in cards forpersonal computers Today Ethernet is so widely used that it is usually built into most PCmotherboards

Michael Dell, while still a student at the University of Texas, Austin, in 1984, beganselling IBM-compatible computers built from stock components that he marketed directly tocustomers By concentrating on direct sales of customized products, Dell became the largestmanufacturer of personal computers in the world, and Michael Dell was CEO longer thanany other executive in the PC hardware industry

Entrepreneurs were at the conception and birth of new products and services that havetransformed the global economy in the last 35 years However, what is turning out to bethe biggest of them all began in 1989 when Tim (now Sir Timothy) Berners-Lee conceivedthe World Wide Web We are in the midst of a revolution that is changing our lives moreprofoundly and faster than anyone could have imagined before the Web became operational

in 1992 No major new product has been adopted as quickly by such a large percentage of theU.S population as the Web

Time for new technologies to penetrate 25% of U.S population

Phone_Service; http://www.netbanker.com/2000/04/internet_usage_web_users_world.html.

Web: Three Revolutions Converge

In 1989, when Tim Berners-Lee wrote a proposal to develop software that resulted in theWorld Wide Web, he was not the first to conceive the idea As far back as 1945, VannevarBush proposed a ‘‘memex’’ machine with which users could create information ‘‘trails’’ linkingrelated text and illustrations and store the trails for future reference.34

later Ted Nelson, inspired by Bush’s ‘‘memex,’’ was the first person to develop the modern

version of hypertext He wrote—prophetically, as it turned out—in 1960 that ‘‘the future

of humanity is at the interactive computer screen the new writing and movies will be

interactive and interlinked we need a world-wide network to deliver it 35

But Nelson, too, was far ahead of the technology In 1962, there were fewer than

ten thousand computers in the world They cost hundreds of thousands of dollars, they

were primitive machines with only a few thousand bytes of magnetic core memory, and

programming them was complicated and tedious AT&T had a monopoly over the phone

lines that were used for data communication And the ARPANET, which was the forerunner

of the Internet, had not yet been conceived.36

Berners-Lee was a 25-year-old physics graduate of Oxford University working as a

consultant at CERN, the European Particle Physics Laboratory in Geneva, Switzerland, in

1980 when he wrote his own private program for storing information using the random

associations the brain makes His Enquire program, which was never published, formed the

conceptual basis for his future development of the Web.37 In 1980, the technology existed

for implementing Berners-Lee’s concept, but the power of the technology was low, and

the installed base of computers was tiny compared to what it would be 10 years later By

1989, when he revived his idea, three revolutions were ready for it They were in digital

technology, information technology (IT), and entrepreneurship The semiconductor revolution

enabled the digital revolution, which in turn enabled the IT revolution By 1992, when the

Web was released by CERN, the Internet had 1 million hosts, computers were 1,000 million

times faster, and network bandwidth was 20 million times greater than 20 years earlier The

entrepreneurship revolution meant that there was an army of entrepreneurs and would-be

entrepreneurs, especially in the United States, with the vision and capacity to seize the

commercial opportunities presented by the Web In February 1993, the National Center for

Supercomputing Applications (NCSA) released the first alpha version of Marc Andreessen’s

Mosaic By December 1994, the Web was growing at approximately 1% a day—with a

doubling period of less than 10 weeks.38 In the next 10 years, Internet usage exploded.∗ By

2009, users numbered 1.7 billion, which was about 25% of the entire population of the world

Entrepreneurship Revolution Strikes Gold

Marc Andreessen moved to Silicon Valley in 1994, teamed up with veteran IT entrepreneur Jim

Clark, and incorporated Mosaic Communications (later renamed Netscape Communications)

Clark put $6 million of his own money into Mosaic, and venture capitalists added another

$6 million.39 Their intent was to create a browser that would surpass the original Mosaic It

was a classic Silicon Valley startup with programmers working 18-hour days, 7 days a week,

sometimes even working 48 hours at one stretch just coding In October 1994, the Netscape

browser was posted as a download on the Internet In no time at all, it was the browser of

choice for the majority of Web users; in December 1994, Netscape Communications began

shipping Netscape Navigator, which started to produce income

Netscape Navigator was an instant success, gaining 75% of the browser market within

four months of its introduction Netscape Communications was only 16 months old when it

went public in August 1995 Its IPO was one of the most spectacular in history and made Jim

Clark the first Internet billionaire According to an article in Fortune, ‘‘It was the spark that

touched off the Internet boom.’’40

∗The Internet and the World Wide Web (now usually called the Web) are two separate but related entities However, most people use the

terms interchangeably The Internet is a vast network of networks, a networking infrastructure The Web is a way of accessing information

Country or Internet Users’ Population Internet % Users

It seemed as if everyone was panning for Internet gold, not only in Silicon Valley but alsothroughout the United States—and a couple of years later throughout the rest of the world.Netscape is a superb example of American venture capital at its best, accelerating thecommercialization of innovations especially at the start of revolutionary new industries driven

by technology Venture capital was in at the start of the semiconductor and the minicomputerindustries in the late 1950s and early 1960s and the biotech and personal computer industries

in the late 1970s, and now it was eager to invest in what promised to be the biggest revolution

of them all, the Internet and the Web

Venture capital is not invested exclusively in technology companies It was in at thebeginning of the overnight package delivery industry with its investment in Federal Express,

at the start of major big-box retailers such as Home Depot and Staples, and at the creation

of new airlines including JetBlue No wonder Jiro Tokuyama, then dean of the NomuraSchool of Advanced Management in Japan and a highly influential economist, stated that

companies In 2008, those venture-backed companies employed more than 12 million people,

or 11% of the private-sector employment, and generated revenues of $2.9 trillion, or 21% of

the U.S GDP.43

The Web presented numerous opportunities that were soon being exploited by

entrepreneurs It created a huge demand for more and more capacity on the Internet, which in

turn presented opportunities for hardware and software entrepreneurs They were fortunate to

find venture capitalists eager to invest in their startups The period from 1996 through 2000

was a golden era for classic43venture capitalists and the entrepreneurial companies they invested

in It was golden both metaphorically and literally, as more and more venture capitalists and

entrepreneurs seemed to have acquired the Midas touch Some of the financial gains from

venture-capital-backed companies were indeed of mythological proportions For instance,

Benchmark Capital’s investment of $5 million in eBay multiplied 1,500-fold in just two

years.44True, Benchmark’s investment in eBay set the all-time record for Silicon Valley, but

there were plenty of instances when investments increased at least a hundredfold and in some

cases a thousandfold With investments such as those, overall returns on U.S classic venture

During a 1999 news conference atthe World Economic Forum in Davos,Switzerland, reporters pestered BillGates again and again with variations

of the same question: ‘‘These net stocks, they’re a bubble?’’ An irri-tated Bill Gates finally confronted thereporters: ‘‘Look, you bozos, of coursethey’re a bubble, but you’re all missingthe point This bubble is attracting somuch new capital to the Internet indus-try; it is going to drive innovation fasterand faster.’’45

Inter-capital soared, with the one-year return peaking at 143% at the end

of the third quarter in 2000, compared with average annual returns in

the midteens prior to the golden era

But the gold rush came to an end in 2000 The Internet

bub-ble burst Many companies failed, others were forced into fire-sale

mergers, investors were hammered, many jobs were lost, and doom

and gloom were pervasive There was much hand-wringing about the

incredible wastefulness of the U.S method of financing new industries

However, by August 9, 2005—the tenth anniversary of Netscape’s

IPO—some companies founded during the gold rush were thriving

The market capitalization of just four of them—Google, eBay, Yahoo,

and Amazon.com—was about $200 billion, which handily exceeded

all the venture capital invested in all the Internet-related companies

through 2000; what’s more, it even topped the combined amount

raised from venture capital and IPOs Granted, there were many more

losers than winners, but five years after the bust, it was clear that U.S

society as a whole had already benefited mightily and the best was yet to

come—but not for everyone As Schumpeter observed, revolutionary

entrepreneurship creates new products, services, and business methods

that undermine and sometimes destroy old ones

Creative Destruction

The Web is blowing gales of creative destruction through many old industries, none more so

than that of print newspapers, whose publishers were slow to recognize their business models

were endangered—perhaps fatally—by the Web Some long-established U.S newspapers,

such as the Rocky Mountain News and the Tucson Citizen, have shut down completely; others

have drastically reduced their operations; and a few, including the Christian Science Monitor

and the Seattle-Post Intelligencer, now publish only on the Web and no longer produce

print editions Several prominent newspaper chains, including the Tribune Company, the

Minneapolis Star Tribune, Philadelphia Newspapers, and the Sun-Times Media Group, have

filed for bankruptcy The 2009 demise of Editor and Publisher, the 125-year-old trade magazine

for the newspaper industry, seemed to symbolize the plight of the industry

24-hour cable news channels in the 1980s and 1990s, but also actually prospered more andmore, so why should they have foreseen in the early1990s the havoc that the fledgling Webwas about to wreak on their industry? What most print publishers did not foresee was thatthe Web would undermine the two basic sources of newspaper revenues, advertising and paidcirculation; ad revenue, for example, fell 28% in 2008.46The underlying cause is the changes

in society brought about by the Internet, which was used by about 75% of the U.S population

in 2009 compared with less than 3% in 1993.47Web portals such as Yahoo, social networkingservices such as Twitter, and individual bloggers give readers instant access to breaking newsstories and often break news ahead of the old media; Google and other search engines make

it easy to find stories from anywhere in the world at lightning speed; and perhaps best of all,

it is free For advertisers, the allure of the Web over print newspapers and magazines is that itallows them to target ads to individuals—every Web user is now a market segment of just oneindividual—and it provides much better metrics for tracking the effectiveness of ads

The Internet has devastated the print media’s business model, and publishers are gropingfor a new one Some think it will be a hybrid of print and the Web; others believe that printwill continue to lose ground to the Web and more papers will publish only Web editions.And what else in this age of government bailouts? Some in Congress have even proposed a

‘‘Newspaper Revitalization Act’’ to help ailing newspapers.48

Causes of the Entrepreneurial Revolution

The United States has always been a nation of entrepreneurs But why has it become moreand more entrepreneurial since the end of the 1960s—creating what is now called theentrepreneurial revolution?

First, we need to step back and look at the U.S economy in the decades before the 1970s.The Great Depression, which followed the stock market collapse of October 1929, had anenormous effect on society By 1932, when Franklin Roosevelt was elected president, over

13 million Americans had lost their jobs, and the gross national product had fallen 31% TheRoosevelt administration implemented many policies to try to bring the nation out of theDepression, but it was not until World War II that the nation once again started to becomeprosperous The end of the war in 1945 heralded an era of economic growth and opportunity.But the memories left by the Depression meant that workers preferred secure jobs with goodwages and benefits that medium and big companies offered And big business was booming.The late 1940s and the 1950s and 1960s were the era of the corporate employee They were

immortalized by William Whyte in The Organization Man,49 in which he ‘‘argued in 1956that American business life had abandoned the old virtues of self-reliance and entrepreneurship

in favor of a bureaucratic ‘social ethic’ of loyalty, security and ‘belongingness.’ With the rise

of the postwar corporation, American individualism had disappeared from the mainstream ofmiddle-class life.’’50The key to a successful career was this: ‘‘Be loyal to the company and thecompany will be loyal to you.’’ Whyte’s writing assumed the change was permanent and itfavored the large corporation

Big American businesses were seen as the way of the future, not just in the United

States but worldwide John Kenneth Galbraith’s seminal book The New Industrial State51and

Jean-Jacques Servan-Schreiber’s Le D´efi Am´ericain (The American Challenge)52both ‘‘becamethe bible to advocates of industrial policies’’53 supporting big business Both books were

instant best sellers Le D´efi Am´ericain sold 600,000 copies in France alone and was translated

into 15 languages Galbraith wrote in 1967, ‘‘By all but the pathologically romantic, it is now

The works of Whyte, Galbraith, and Servan-Schreiber were required reading in universities

through the 1970s Schumpeter’s work was hardly ever mentioned,54 and when it was, it

was his book Capitalism, Socialism, and Democracy, published in 1942,55 in which he was

very pessimistic that capitalism would survive Unlike Karl Marx, who believed the proletariat

would bring about the downfall of capitalism, Schumpeter reasoned that the very success of

free enterprise would create a class of elites who would favor central control of the economy and

thereby curb free enterprise His first book, The Theory of Economic Development,56originally

published in German in 1911, in which he endorsed entrepreneurship, was hardly ever

mentioned What’s more, in the 1970s there was an abundance of university courses dealing

with Karl Marx and almost none dealing with entrepreneurship It’s not surprising that the

world was first alerted to the entrepreneurial revolution by a journalist, Norman Macrae, rather

than by an academic scholar About a decade later, researchers confirmed retrospectively that

entrepreneurial activity had indeed been on the increase in the United States in the 1970s.57

Entrepreneurship did not disappear in the 1930s, 1940s, 1950s, and 1960s; it simply

did not grow very much What brought about the change in the economy that stirred up

entrepreneurship around 1970? To try to understand what changes were taking place, we

need to look at the social, cultural, and political context of an economy A framework for this

perspective is presented in Figure 1.1, the Global Entrepreneurship Monitor (GEM) model

for the economy.58

The central argument59of the GEM model is that national economic growth is a function

of two sets of interrelated activities: those associated with established firms and those related

directly to the entrepreneurial process Activity among established firms explains only part of

the story behind variations in economic growth The entrepreneurial process may also account

for a significant proportion of the differences in economic prosperity among countries and

among regions within countries

When looking at the nature of the relationship between entrepreneurship and

eco-nomic growth, it is important to distinguish between entrepreneurial opportunities and

entrepreneurial capacity What drives entrepreneurial activity is that people perceive

oppor-tunities and have the skills and motivation to exploit them The outcome is the creation of

new firms and, inevitably, the destruction of inefficient or outmoded existing firms

Schum-peter’s process of creative destruction is captured in the model by business churning Despite

its negative connotation, creative destruction actually has a positive impact on economic

growth—declining businesses are phased out as startups maneuver their way into the market

These dynamic transactions occur within a particular context, which the GEM model calls

entrepreneurial framework conditions and which includes factors such as availability of finance,

government policies and programs designed to support startups, R&D transfer, physical and

human infrastructure, education in general, education and training for entrepreneurship,

cultural and social norms, and internal market openness

Changes in the Entrepreneurial Framework Conditions

Now let’s look at some of the major changes in the framework conditions that have fueled the

entrepreneurial revolution

Cultural and Social Norms First, let’s consider the most important components, the

entrepreneurs themselves In the 1960s, a generation of Americans born in the late 1930s and

the 1940s—including the first baby boomers—came of age They had no first-hand memory

of the Great Depression When they were growing up, the economy was doing well most

of the time, so they really had not experienced hard times like their parents had endured

Hence, they were not as concerned about job security Many were even rebelling against large

Framework Conditions

Openness (External Trade) Government (Extent, Role)

Major Established Companies (Primary Economy)

Micro, Small, &

Medium Companies (Secondary Economy)

Entrepreneurial Opportunities

New Companies

New Establishments

Business Churning Jobs and Innovation National Economic Growth

Entrepreneurial Capacity

Financial Markets (Efficiency) Technology, R&D (Level, Intensity

Infrastructure (Physical) Management (Skills) Labor Markets (Flexible) Institutions (Unbiased, Rule of Law)

Entrepreneurial Framework Conditions

Cultural, Social Norms

Commercial, Legal Infrastructure Internal Market Openness Financial

Access Infrastructure Physical

Skills & Motivation

Human

F i g u r e 1.1

GEM model of economic growth

corporations, some of which were seen as members of the military-industrial complex thatwas supporting the very unpopular war in Vietnam; some companies were trading with SouthAfrica, where apartheid still prevailed; and others were under attack by consumer activistssuch as Ralph Nader.60It was a generation of Americans who were better educated than theirparents, and for them, starting a new business was a credible career

The Fortune 500 employed 20% of the workforce in the 1960s That percentage began to

decline in 1980 and continued to do so every year since then, down to about 10% by 2005.Hence, jobs in big companies became scarcer Many companies downsized, and according

to George Gendron, who was the publisher of Inc magazine during the 1980s and 1990s,

20% of downsized executives started businesses Gendron also suggested that some of theexecutives who were retained—often the ‘‘best and the brightest’’—became disillusioned bytheir career prospects in stagnant companies, and that led to a ‘‘second exodus’’ that producedmore entrepreneurial activity.61

Other important social changes boosted entrepreneurship in the 1990s More womenbecame business owners, and the proportion of Asian-owned firms increased, as did Hispanic-owned and African-American-owned firms According to Gendron, for people with limitedoptions in employment, entrepreneurship represents the ‘‘last meritocracy.’’

than with small But it did recognize the need to pay attention to startups with high potential,

especially the ones funded by venture capitalists There had been a burst of

venture-capital-backed startups in the last half of the 1960s But in the early 1970s, venture capital dried up to

a trickle Looking back from the perspective of 2010, when $20 billion of new money flowing

into the venture capital industry seems routine, it is scarcely believable that only $10 million

of new money was committed in 1975 Congress took urgent steps in 1978 to stimulate

the venture capital industry, including reducing the capital gains tax and easing the ERISA

prudent man rule, which had inhibited pension funds from investing in venture capital funds

The pension floodgates opened, and the inflow of venture capital increased to $4.9 billion by

1987 Likewise, venture capital invested in portfolio companies increased from a low of $250

million in 1975 to $3.9 billion in 1987—a 16-fold increase.62

The government asserted its role of ensuring market openness by minimizing

anticom-petitive behavior We’ve already mentioned that legislation toward the end of the 1970s

deregulated the airfreight and airline passenger industries That was followed in the early

1980s by the U.S Justice Department’s move to break up AT&T’s monopoly

The government deserves immense credit for its funding of R&D in government,

universities, and corporations, both directly and indirectly through purchases of products Its

support was vital in the development of the computer, communications, biotech, and many

other industries

Washington activated the Small Business Innovation Research (SBIR) program in 1983 to

ensure that small businesses shared some of the federal R&D dollars for new technology-based

developments In 2007, around 5,500 awards, totaling $2 billion, went to small businesses

as a result of the SBIR program In general, funds awarded under the SBIR program go to

develop new technologies that are high risk and high reward Some might say it is pre–venture

capital money From that viewpoint, $2 billion is a significant amount when compared with

$1.01 billion that venture capitalists invested in seed- and starup-stage technology companies

in 2007 A total of $26 billion has been awarded over the 26 years of the SBIR program

through 2008.63

R&D Transfer Commercial development of intellectual property resulting from federally

funded research is a major benefit to the U.S economy It was given a major boost by the

passage of the Bayh-Dole Act, implemented in 1980 The primary intent of that law was to

foster the growth of technology-based small businesses by allowing them to own the patents

that arose from federally sponsored research Under Bayh-Dole, universities were allowed to

grant exclusive licenses—a feature that was regarded as crucial if small businesses were to

commercialize high technologies that were inherently risky propositions.64

Before 1980, U.S universities were granted about 300 patents a year In 2003, they

applied for about 10,000 In 1980, 25 to 30 universities had offices for technology transfer

Today, more than 1,200 do.65The Economist hailed Bayh-Dole as ‘‘the most inspired piece of

legislation to be enacted in America over the past half-century.’’ The Economist estimated that

Bayh-Dole had created 2,000 new companies and 260,000 new jobs and had contributed $40

billion annually to the U.S economy.66That assessment was made almost 10 years ago, and

more progress has been made since then.67

The government itself has technology transfer offices at most of its research laboratories68

and many large companies have licensing offices IBM, for example, which annually spends

about $5 billion on R&D, was granted 4,186 patents in 2008 It generates about $1

billion annually from licensing intellectual property, which comprises both patents and

copyrights

Fruits of Federally Funded R&D

The success of Bayh-Dole goes far beyond the efforts

of Bob Dole and Birch Bayh This legislation combined

the ingenuity and innovation from our university

labora-tories with the entrepreneurial skills of America’s small

businesses Most importantly, this combination created

the incentive necessary for private investment to invest

in bringing new ideas to the marketplace The delicate

balance of ingenuity, entrepreneurship, and incentive

upon which the success of Bayh-Dole has depended

must not be disrupted

A few of the products which have been produced

in the last six years are:

• Taxol, the most important cancer drug in 15 years,

according to the National Cancer Institution

• DNA sequencer, the basis of the entire Human

Genome Project

• StormVision, which airport traffic and safety

man-agers use to predict the motion of storms

• Prostate-specific antigen test, now a routine

com-ponent of cancer screening

• V-Chip, which allows families to control access to

television programming

Statement of Senator Birch Bayh to the National Institutes of Health, May 25, 2004.

Physical Infrastructure The biggest change in entrepreneurship in the last 10 years

is due to the Web, the great equalizer Small businesses now have at their fingertips a tool

so powerful that it is leveling the playing field Big businesses no longer enjoy as many scaleeconomies as they did before the Internet Information that could have been gathered only by

a multitude of market researchers can now be found with a search engine and a couple of clicks

of a mouse Entrepreneurs don’t have to spend a fortune to reach customers with print, radio,and television advertising; they can target their potential customers anywhere in the world viathe Web When they want to find a vendor, the Web is there to help them—as it is whenthey are seeking employees, bankers, and investors Furthermore, the cost of communications

of all kinds (except snail mail) has plummeted since AT&T was broken up A long-distancetelephone call that cost 40 cents a minute in 1980 now can be made for as little as 1 cent And

if these entrepreneurs need to travel by air, they can shop the Web to find the cheapest ticket,automobile rental, and hotel room

The worldwide distribution of goods and services is now open to everyone.Just consider what eBay has already done to change the entrepreneurial landscape.According to a 2005 study by ACNielsen International Research, 724,000 Americansreport that selling on eBay is their primary or secondary source of income.69 An Americanentrepreneur can sell merchandise to a customer anywhere in the world; PayPal (founded in

1998 and now part of eBay) can ensure that the entrepreneur receives payment speedily andsecurely online; the merchandise can be delivered to the buyer within a day or so via FedEx;and buyer and seller can track the shipment online at each step of its journey

Outsourcing services and goods makes companies more efficient and effective.Entrepreneurs can now focus on their company’s core competency and let vendors take care ofnoncore items such as payroll, Web hosting, telemarketing, manufacturing, and distribution.There are even companies that will help entrepreneurs find outsource partners Outsourcing

enables small businesses to act like big ones, and some small companies are even called virtual

companies because they outsource so much of their work.

incubators also provide ready access to human infrastructure In 1980, there were only 12

business incubators in the United States; over the period between 1985 and 1995, the number

of U.S incubators grew 15-fold, from 40 to nearly 60070—and by 2003, there were some 850

incubators.71The National Business Incubation Association (NBIA) estimated that in 2005

alone, North American incubators assisted more than 27,000 startup companies that provided

full-time employment for more than 100,000 workers and generated annual revenue of more

than $17 billion.72

Ebay President and CEOJohn Donahoe gives thekeynote address at theannual eBay Live confer-ence in Chicago, Illinois

Access to human

infrastruc-ture is as important as access

to physical infrastructure—

maybe more so The human

infrastructure for entrepreneurs

grew rapidly in the last 20

years or so, and gaining access

to it has never been easier

Thirty years ago, starting a new

venture was a lonely pursuit,

fraught with pitfalls that would

have been avoided by

some-one with prior entrepreneurial

experience Today numerous

entrepreneurship experts gladly

help people who are starting or

growing companies There are

support networks, both

infor-mal and forinfor-mal, of

profession-als who know a lot about the

entrepreneurial process Just search the Web for ‘‘entrepreneur AND assistance AND your

town,’’ and you might be astonished by the number of hits.

Education, Training, and Professionalization Entrepreneurship education and

training is now readily available, part of the professionalization of entrepreneurship that has

taken place over the last 20 years.73 According to Gendron, a body of knowledge and skills

has developed over the last 20 years to enhance the chances of entrepreneurial success A

good illustration is the widely dispensed advice that would-be entrepreneurs should write a

business plan before they launch their new ventures The world of entrepreneurship is awash

with information about business plans The field has come a long way since the pioneers

of entrepreneurship training put writing a business plan at the core of their programs in

the 1970s.74

When Babson College and the University of Texas started their internal business plan

competitions in 1985, only a few schools had entrepreneurship courses Now more than 60%

of four-year colleges and universities have at least one entrepreneurship course, and many have

entrepreneurship centers Today entrepreneurship training courses are readily available to all

sectors of the population

The Accidental Entrepreneur

Like many other scientists and engineers who have

ended up founding companies, I didn’t leave Caltech

as an entrepreneur I had no training in business; after

my sophomore year of college I didn’t take any courses

outside of chemistry, math, and physics My career as

an entrepreneur happened quite by accident

There is such a thing as a natural-born

entrepreneur But the accidental entrepreneur like

me has to fall into the opportunity or be pushed into it.Most of what I learned as an entrepreneur was by trialand error, but I think a lot of this really could have beenlearned more efficiently

—Gordon Moore (co-founder of Fairchild Semiconductor in 1957

and Intel in 1968).75

Financial Raising money for a new business is seldom easy, but the process of raisingstartup and expansion capital has become more efficient in the last 20 years or so In 1982,for instance, an economist at the National Science Foundation stated that venture capitalwas shrouded in empirical secrecy and an aura of beliefs.76 The same held true for angelinvesting In contrast, today there is an abundance of help The amount of venture capitalunder management has grown from $3.7 billion in 1980 to more than $200 billion in

2008.77 We do not have reliable numbers for business angel investors, but we do know thatinformal investors—everyone from parents to external business angels—now invest morethan $100 billion annually in startup and baby businesses Furthermore, informal investorsare ubiquitous Five percent of American adults report that they ‘‘invested’’ in someone else’sventure in the last three years.78It is impossible to claim that the availability of financing hasdriven the entrepreneurial revolution, but it does appear that sufficient financing has beenavailable to fuel it

Churning and Economic Growth

Technological change, deregulation, competition, and globalization presented countless

oppor-tunities, which American entrepreneurs seized and commercialized It caused a lot of churning,

or Schumpeter’s creative destruction But 11 new businesses with employees were started forevery 10 that died over the decade 1990–2000.79It is this churning that gives the economyits vitality Only a society that willingly adapts to change can have a dynamic economy

Entrepreneurial competition, according

to Schumpeter, ‘‘strikes not at the

mar-gins of the profits of the existing

firms but at their foundations and very

lives.’’ Established companies that stick

with their old ways of doing business

self-destruct as their customers turn to

new competitors with better business

models

We can find examples of churning in every industry that is not

a monopoly or a regulated oligopoly Who can recall VisiCalc or forthat matter Lotus 1-2-3? At the height of their fame they were two ofthe most widely used software packages for PCs Today Excel is thespreadsheet of choice In one week alone in May 1982, when DigitalEquipment Corporation (DEC) introduced its ill-fated Rainbow PC,four other companies introduced PCs.80 At the peak of the PCindustry frenzy in the early 1980s, more than 200 companies eitherhad introduced PCs or were planning to do so Only a handful of

PC manufacturers exists today DEC, which in 1982 was the secondlargest computer manufacturer in the world, was eventually bought byCompaq, which in turn merged with Hewlett-Packard In 2004, IBMsold its PC division to Lenovo, a company founded in 1984 by a group

of academics at the government-backed Chinese Academy of Sciences

in Beijing

Not only did the advent of the PC churn up the entire computer industry, but also itvirtually wiped out the typewriter industry And it changed the way office work is organized.Secretaries had to learn computer skills or they were out of work

twice, in 1983 and 1990 In September 2005, United Airlines, US Airways, Hawaiian Airlines,

ATA Airlines (also known as American Trans Air), Delta, Northwest, and Aloha Airlines were

all in Chapter 11 bankruptcy, and only a handful of the 100 or so passenger airlines started

up since deregulation are still around Who goes to a travel agent to get a regular airline ticket

or book a hotel room today? Where is the fax machine headed? Likewise video stores and CD

retailers? Why are newspapers laying off workers? Who is buying a film camera? And even

entrepreneurship academics should watch out Donald Trump, building on his TV success

with The Apprentice, has started Trump University to teach—what else?—entrepreneurship.

‘‘The power of Walmart is such, it’s reversed a 100-year history in which the manufacturer was powerful and the retailer was sort of the vassal

It turned that around entirely.’’

—Nelson Lichtenstein,

University of California, Santa Barbara

Granted, churning causes a lot of disruption—and nowhere more

than in the lives of those who lose their jobs as a result But overall,

society is the beneficiary Entrepreneurship produces new products

and services, it increases productivity, it generates employment, and

in some cases, it keeps inflation in check Economists estimate that

Walmart alone knocked 20%—perhaps as much as 25%—off the

rate of inflation in the 1990s.81 According to Alfred Kahn, the father

of airline deregulation, airline passengers are now saving $20 billion a

year.82 And with Skype™ and the Internet, you can ‘‘talk to anyone,

anywhere in the world for free Forever.’’83

Next we will look at how other nations as well as the United States

are faring with entrepreneurship

Global Entrepreneurship Monitor

The Global Entrepreneurship Monitor (GEM) was conceived in 1997∗to study the economic

impact and the determinants of national-level entrepreneurial activity With its coverage of

more than 60 countries worldwide, GEM is the largest coordinated research effort ever

under-taken to study population-level entrepreneurial activity Member nations account for

approxi-mately 95% of the world’s GDP and two-thirds of its population Because of its worldwide reach

and rigorous scientific method, GEM has become the world’s most influential and authoritative

source of empirical data and expertise on the entrepreneurial potential of nations.84

The main objectives of GEM are to gather data that measure the entrepreneurial activity

of nations and other data related to entrepreneurial activity; to examine what national

characteristics are related to levels of entrepreneurial activity; and to explain how differences

in entrepreneurial activity are related to different levels of economic growth among nations

GEM distinguishes between two types of entrepreneurial activity:85

who have not yet done so

months old

∗GEM in itself is an example of not-for-profit (social) entrepreneurship It was conceived in 1997 by Babson College and London Business

School professors It was prototyped with bootstrap funding and volunteers and was officially launched in 1998 with research teams from 10

nations and supported with funding raised by each team from national sponsors By 2009, it had evolved into an international consortium

of more than 200 researchers from more than 60 nations, with a combined annual budget of about $4 million It produces annual global

reports on the overall state of entrepreneurship in those nations, country-specific reports, and reports on special topics such as female

entrepreneurship, financing, and job creation More than 100 global and regional reports can be read and downloaded at

• TEA (total entrepreneurial activity) is the percentage of the adult population that is either

nascent entrepreneurs or baby businesses owner-managers or both It measures the overallentrepreneurial activity of a nation

• TEA (opportunity) is the percentage of the adult population that is trying to start or has

started a baby business to exploit a perceived opportunity

• TEA (necessity) is the percentage of the adult population that is trying to start or

has started a baby business because all other options for work are either absent orunsatisfactory

Principal Findings from GEM

The total entrepreneurial activity (TEA) by country in 2009 is shown in Figure 1.2 The TEAvaried from a low in Japan of 3.3% to a high in Uganda of 33.7% for adults 18 to 64 yearsold The average level was 10.7% or 1 adult in 11

Source: Gem Adult Population Survey, 2009.

F i g u r e 1.2

Early-stage TEA for 54 nations in 2009

Spain, and the United Kingdom have narrow bars because the samples were very large.

Where bars overlap there is no statistical difference among those nations For example,

among countries with lower TEA rates, Japan, Belgium, Denmark, Hong Kong, Italy, Russia,

Germany, and France have comparable levels of entrepreneurial activity; among countries with

more entrepreneurial activity, Colombia, Jamaica, Yemen, and Guatemala have comparable

TEA rates

GEM defines two types of entrepreneurship: opportunity based and necessity based

In general, nations with high per capita income have proportionately less necessity-pushed

entrepreneurial activity and more opportunity-pulled entrepreneurial activity and vice versa

for nations with low income, as shown in Figure 1.3 People in higher-income nations tend to

have more opportunities for employment and stronger safety nets like social welfare programs,

especially for the out-of-work; hence, proportionately fewer are pushed into entrepreneurship

to support themselves and their families The relatively high R2of 51% confirms that much

of the variation in the proportion of necessity entrepreneurship among nations is accounted

for by differences in per capita income

The relationship between the TEA rate and per capita income (see Figure 1.4) is U-shaped,

indicating that, as nations become more prosperous, entrepreneurial activity declines; bottoms

out at around $30,000 per capita, with GDP converted to purchasing power parity (PPP)

rather than raw GDP; and then increases A possible explanation is that, as a nation makes the

transition from a less developed nation to a developing one, there are more opportunities for

employment with established businesses, so entrepreneurship, especially the necessity-driven

form, declines Entrepreneurial activity bottoms out and then increases again as more and

more opportunities, particularly in service and knowledge-based industries, are spotted by

entrepreneurs with the skills and motivation to develop them

GDP(PPP) per Capita, US$

*R2 is the proportion of the variation that is explained by the trend line An R2 of 0.51 indicates that 51% of the variation in the TEA

(opportunity)/TEA (necessity) ratio is explained by GDP per capita.

Source: GEM Adult Population Survey, 2009.

F i g u r e 1.3

TEA (opportunity)/TEA (necessity) and per capita income in 2009

*R2 = 0.52

051015202530

GDP Per Capita in Purchasing Power Paritiy, US$1,000

UG

US AE

VE

IS

NL

BE UK

JP

LV

IT FR

BR CN

RU BA

SY

HU

RO YU

AR CL

GT JM

EC DZ DO

PE CO

LB

IR

PA ZA MY HR

UY

KR

SI

HK IL

GR

NO SW

Young people between 25 and 34 years of age are the most entrepreneurially active group

of the population regardless of the wealth of the country (see Figure 1.5).86After the age of

35, all populations show a steady decline in entrepreneurial activity This indicates that age

is an important factor in the decision to become an entrepreneur A nation’s demographicstructure has a significant impact on the immediate level of entrepreneurial activity in theshort-term, and demographic change has a significant impact on entrepreneurial activity in thelong-term

Different income groups∗ have markedly different entrepreneurship activity levels acrossall age groups Low-income countries have the highest activity levels across all age groups, andhigh-income countries have the lowest However, the level of necessity entrepreneurship ishigher in low-income countries and is also very high among the younger age groups in thosecountries, where better opportunities for employment are scarcer

∗Low income:≤$10,000 per capita annually; middle income: >$10,000 ≤$25,000; high income: >$25,000.

18-24 YRS 25-34 YRS 35-44 YRS 45-54 YRS 55-64 YRS

Approximately 50% more men than women are entrepreneurially active.87These differences

are consistent across age groups and across most countries

In 2009, Japan, Italy, France, Saudi Arabia, Slovenia, Korea, West Bank & Gaza Strip,

Syria, and Jordan all show large gender gaps in entrepreneurial activity, while in Brazil,

Ecuador, Tonga, Venezuela, and Guatemala, participation rates are statistically identical (see

Figure 1.6).∗ The narrower gaps in this last group of countries is most likely because the

ratio of female to male entrepreneurs is higher in the case of necessity-based entrepreneurship,

which constitutes a high proportion of activity in the low-income countries

Education

It is widely believed that levels of educational attainment have implications for entrepreneurial

behavior Figure 1.7 shows the relationship between entrepreneurship and some secondary

education, a secondary degree, and postsecondary education for each of the three income

groups.88Secondary education refers to young people roughly between the ages of 12 and 18

years.89

The wide differential between the educational profiles of entrepreneurs in low- and

high-income countries is obvious In high-income countries, 57% of entrepreneurs have

a postsecondary education, suggesting that in these countries the education systems are

tending to build skills conducive to entrepreneurship In the poorest countries, only 23%

of entrepreneurs have a postsecondary education On the other hand, almost half of the

entrepreneurs in low-income nations have not completed secondary education; this is the case

for only 13% of their high-income counterparts In the middle-income countries, the most

∗What appears to be a closing gender gap may possibly be the result of sample bias The overall level of activity is very low in some

Finland Spain France

Panama Greece Hungary Norway

Syria LatviaTunisia Brazil Iceland

Male Female

F i g u r e 1.6

Early-Stage TEA rates by gender in 2009

Low-income countries >$10,000

Middle-income countries

High-income countries >$25,000

Up to some secondary Secondary degree Post-secondary

Source: GEM Adult Population Survey, 2004.

F i g u r e 1.7

Education among entrepreneurs by country income group (GDPper capita) in 2004

Entrepreneurial activity and financing go hand in glove, so it is no surprise that in general

they are correlated There are two main types of financing for new ventures: equity and

debt As a general rule, equity financing has to come before debt, particularly borrowing

from a bank Hence, GEM focuses on equity financing, which is informal investments

from the entrepreneurs’ families and friends, business angels, and, on rare occasions, formal

venture capitalists Informal investment is much more important than venture capital (see

Figure 1.8); one remarkable feature is China’s huge amount of informal investment, which

is associated with China’s very high TEA rate; another is Israel’s high proportion of venture

capital to informal investment, which is related to that country’s large number of high-tech

companies backed with venture capital In a later chapter, we will discuss GEM financing in

more detail

Job Creation

We now look at the prevalence of high-growth expectations among both nascent entrepreneurs

and owner-managers of baby businesses, as identified in GEM’s Adult Population Surveys

from the years 2004 to 2009.90

The GEM method enables the categorization of early-stage startup attempts according

to their growth expectations GEM asks all identified early-stage entrepreneurs how many

employees they expect to have (other than the owners themselves) within five years’ time

Belgium Greece Slovenia

Serbia Croatia Israel China

Informal investment Venture capital

11.4%

Source: Informal Investment—GEM Adult Population Survey, 2009; Venture Capital—National Venture Capital

Association, USA (NVCA), European Venture Capital Association (EVCA), & National Venture Capital

Association of China, Israel, Japan, Korea, South Africa, 2008.

F i g u r e 1.8

Informal investment and venture capital as a percentage of GDP (2009)

in startup attempts expected to create 20 or more jobs, while 44% expected to create 5 ormore jobs.

High-growth entrepreneurs, also known as ‘‘gazelles,’’ receive heightened attention frompolicy makers because their firms contribute a disproportionate share of all new jobs created

by new firms.91,92 Figure 1.9 shows the prevalence rates of high-expectation entrepreneurialactivity (HEA) in the working-age population

Among high-income countries, the United Arab Emirates, Iceland, the United States,Canada, Singapore, Ireland, and Australia had the highest levels of HEA over the 2004–2009period The HEA rate for these countries is well over 1% The lowest levels of HEA, at under0.5%, occur in Spain, Belgium, Japan, and France HEA rates can vary even among broadly