Knowledge that Transforms

This article examines the nature of the investment process which has historically generated high returns for venture capital funds, and the impact on fund returns of perceived changes in management practice and the structure of the industry. The article outlines some policy implications for fund managers, investors, and the general management of corporations. The authors have investigated the investment process and the changes in the nature of the process through the use of a Monte-Carlo simulation model. Information gathered from interviews with fund managers and the available published data on venture fund performance (including proprietary surveys) was used to develop and calibrate the model. The model replicates the relatively high average fund returns and distribution of returns for funds through the early 1980s. The model simulates a multistaged investment process which draws on a pool of investment opportunities which have a log normal distribution of returns and a low (zero) average return. The model readily permits the exploration of the impact of management and industry practices on fund returns. The conditions identified by the authors, which led to high rates of return on the part of venture capital funds, include: 1.1) multistaged investment or commitment of funds on an incremental basis with evaluation of venture performance before commitment of additional fund;2.2) objective evaluation of venture performance with the clear distinguishing of winners from losers;3.3) parlaying funds or having the confidence to commit further funds to ventures identified as winners;4.4) persistence of returns from one round to the next, which implies that valuable information is gained from previous rounds of investment in the same venture;5.5) long-term holding of investment portfolios for a period sufficient for geometric averaging of compound returns to cause the winners to “take over” or raise portfolio returns. Taken together, these conditions have permitted venture capital funds to historically realize strong average returns with a few of them realizing extraordinary returns. The article also explores the consequences of what some believe is happening in the industry: a trend toward holding investments for shorter periods, increased competition both for investments and later in the product-market arena, and a growing lack of loyalty between investors and investees. All of these conditions and their indirect consequences were shown by the model to negatively impact the limited partners in the venture capital funds while general partners, given the structure of fees and the distribution of investment returns, generally realized a reasonable to extraordinary return. The article outlines a number of management and investment policy implications for investors and fund managers.

Bringing entrepreneurship education into the community support infrastructure poses one of the more important economic development issue for the 1990s. Aspart of the new strategy for job creation, entrepreneurship education holds promise as an integral component in a community's venture support system along with incubators, innovation centers, technology transfer offices, science parks, and venture capital operations. Since new venture success is foremost a function of entrepreneurial knowledge and know-how, entrepreneurship education may be the most promising of these economic development mechanisms. Unfortunately, it may be the most difficult to implement. Generally the extent and nature of education required by modern aspiring entrepreneurs is not well understood. Many would see entrepreneurship education as strictly an add-on to current education in management or engineering. Such is the option of minimal use. The real promise or entrepreneurship education will be realized when it is strategically organized for economic development and job creation. This article traces the recent history of entrepreneurship education before proceeding to deal with a number of questions facing those who would use entrepreneurship education as part of a modern economic development strategy:1.1. Why is entrepreneurship education important?2.2. How should it be distinguished from related programs?3.3. How will success be measured?4.4. Who will be the students?5.5. How will the subject be taught?6.6. What will be the curriculum?7.7. Who will be the teachers?

This article reports the results of a questionnaire survey addressed to CEOs of Fortune 500 companies concerning incentive practices for venture managers. Data was also collected for venture performance history in these companies. Highlights of the results are: Most companies are not providing different incentives for venture managers than for other managers. Companies that do and companies that do not provide special incentives seem to agree on the types of incentives which would promote improved venture performance, which include milestone bonuses, equity, and/or options in the new venture, variable bonuses based on venture ROI. The primary obstacle to installing such incentives is reported by firms without special incentives in place to be concern about internal equity. Firms with special incentives already in place have less concern with this problem. A moderate problem to such firms is difficulty in defining venture objectives. There is no evidence, from this study, that special incentives for venture managers affected the outcome in venture performance, when such performance was measured by the percentage of “successes” and “failures.” About 50% success rate was reported by each group. The article deals with these questions: Are performance incentives essential? Certainly not, from the data in this sample, but this was a “head count” of successes and failures—a study of overall economic performance might yield a different result. One expensive failure can wipe out the gains from many small successes. Are the incentives reported effective? Obviously not enough to show a difference between those who use them and those who don't. Analysis of the incentive elements used and the earnings limits imposed suggest that the special incentives are not particularly special, nor very much of an incentive. Further, the most common incentive reported, based on venture ROI, fails to consider the time period usually required to achieve a positive ROI, and the many changes of management which occur during that period. What criteria should be used for designing an incentive program for venture managers? Recognition of the probability of management change, incentives which promote early identification of need for change of direction or to abort, focus on event completion milestones rather than the calendar, the relationship of reward potential to risk potential including job security and actual financial risk by the venture manager, achievability, and simplicity are factors to be considered. What kind of financial incentives might be included in incentive design? Depending on the life cycle stage of the venture, fixed and variable bonuses, options for equity or shadow equity in the venture itself, actual equity in the new venture, and to a lesser extent, salary increases and equity or equity options in the parent are suggested. How can the obstacles to installation of performance incentives for venture managers be reduced? To reduce perception of internal inequity, relating potential risk to potential reward and extending performance incentives to other managers is suggested. The problem of defining venture objectives as an obstacle is instantly solved as an incentive issue by making ownership possibility a reality for venture management, especially with financial investment required by venture management.

There are numerous studies on new product activities that try to measure the relative impact of different factors on success or failure. The research on new ventures is less comprehensive, and often only a few items are considered. This article reports on the early results from a research program that is combining the research on both new products and new ventures, to come up with a more comprehensive evaluation of relative success factors. The literature was reviewed to determine the most significant factors found in prior work. A 68-item questionnaire was developed and used with the chief executives of 24 new technical ventures, all associated with the RPI Incubator or Technology Park. Ten of the 17 factors investigated yielded reliable measurements, which were then subjected to siepwise regression analysis to determine the relative impact of each factor on the two success measurements used: Initial Quantified Success and Initial Subjective Success. It should be recognized that Initial Success does not necessarily predict ultimate success, an area to be investigated in continuing studies.) The two success measurements were not correlated and the correlations with the independent variables were therefore different. Initial Quantified Success showed a strong negative correlation with market attractiveness. Companies entering smaller or more slowly growing markets were doing better than those in the larger, faster-growing markets. Initial Quantified Success was positively correlated with the level of Entrepreneurial Characteristics exhibited by the leader(s). These were the only two variables exhibiting significant relationships with quantified success. Initial Subjective Success was negatively correlated with Market Dynamism rather than Market Attractiveness. Negative correlation was also measured with both R&D Intensity and the Organic Nature of the firm. This latter finding is contrary to much of the new product literature, which emphasizes the need for individual independence and initiative. Such may be the case with new products or ventures within large organizations, but in small independent ventures the entrepreneur should provide strong control and guidance. A positive correlation was observed with the Entrepreneurial Characteristics and also with the degree of match between the firm's experience and the new business requirements. No significant correlation was observed with 1) Product or Service Uniqueness, 2) Gross Margin, or 3) Strategic Aggressiveness. The lack of correlation with these variables is surprising, but it may be due to the small size of the sample. The research confirmed two items that are understood by most scholars and experienced practitioners: the importance of the entrepreneur and the importance of pursuing new ventures that match the technical and market experience of the team. The less obvious results are those that suggest that success is favored by strong review and control by the entrepreneur rather than the development of employee initiative and independence. Also, the initial success appears to be coming more readily to firms in more slowly growing or less dynamic markets. It will take an expanded sample and a longer time horizon to determine if these initial trends continue to ultimate success.

Venture capital is a primary and unique source of funding for small firms because these firms (with sales and/or assets under $5 million) have very limited access to traditional capital markets. Venture capital is a substitute, but not a perfect substitute, for trade credit, bank credit, and other forms of financing for small firms. Small businesses are not likely to be successful in attracting venture capital unless the firms have the potential to provide extraordinary returns to the venture capitalist. This study provides an analysis of a survey of venture capital firms that participate in small business financing. The survey participants are venture capital firms that were 1986 members of the National Venture Capital Association (NVCA), the largest venture capital association in the United States. The average size of the venture capital firms responding to the survey is $92 million dollars in assets, with a range from $600 thousand to $500 million. Twenty-three percent of the respondents have total assets below $20 million, and 27% have assets above $100 million. The venture capitalists' investment (assets held) in small firms delineate the supply of venture capital to small firms. Sixty-three of the 92 venture capitalists' have more than 70% of their assets invested in small firms. The venture capitalists were asked how their investment plans might change with changes in the tax law that were projected in the spring of 1986. Fifty-four percent expected to increase their investments in small firms, and 38% did not expect to change these activities. Venture capitalists are very selective in allocating their resources. The average number of annual requests that a venture capitalist receives is 652, and the median number is 500: only 11.5 of the respondents receive more than 1,000 proposals per year.

New business firms are now considered a major source of new jobs, economic growth, technical innovation, and economic flexibility. They may provide a major strategic advantage for the United States in world competition. A more complete, precise understanding of the dynamics of new firm development, their societal contributions, and factors affecting their survival has considerable policy and managerial significance. A study of new firm contributions and survival was completed to determine whether the same factors would account for both. They do not. The research began with a substantial body of descriptive information on 551 new firms initiated in Minnesota between 1978 and 1984. The initial data were collected in the summer of 1984; a one-year follow-up was completed in 1985 to determine new firm survival. The sample was representative of all major industry sectors and all regions of the state; about 60% were located in the Minneapolis-St. Paul urban area. Attempts to predict current (1984) contributions indicated that age was not a significant factor; older new firms did not contribute more than younger new firms. The developmental pattern, primarily the average annual growth rate, was highly related to sales or jobs provided in 1984. Next most significant was the industry of the new firm; manufacturing, distributive services, and business (producer) service new firms provided more significant contributions. The one-year follow-up was able to determine the survival status of 548 of the 551 firms; slightly less than 10% (48) had not survived. Major factors related to survival appeared to be age (high death rates at 2–3 years) and attention to financial matters.

The United States has incomparable advantages over all other nations, not only to recapture and maintain technical-industrial leadership in most areas of commerce, but to provide international leadership to expand the global economy and raise the quality of life of all nations. 1.• The U.S. currently spends about $15 billion each year in basic research to expand the fundamental pool of knowledge. This is many times greater than any other nation, and represents an enduring and powerful advantage. It also provides an historically unprecedented array of application opportunities for all nations to create innovative niche businesses.2.• The U.S. has the greatest breadth and depth of technical-industrial capability in the world to translate new discoveries into useful products, processes and services.3.• The U.S. has a remarkable entrepreneurial culture which provides permission to fail and try again until success is achieved without permanent personal or public penalty.4.• The U.S. has the largest pool of 4.5 million trained scientists and engineers in the world.5.• The U.S. has the most flexible capital development capability in the world's largest market with a common language. U.S. industrial competitiveness requires that these unique capabilities be maximized through continued removal of barriers, provision of incentives, and continual catalysis of cooperative efforts through diverse centers of innovation. The professionally managed incubation center concept has emerged as a most successful model to this end.

This article examines the relationship between entrepreneurial and marketing orientations of a firm. It is hypothesized that more entrepreneurial firms will also be more marketing oriented. Both orientations represent strategic responses to the turbulent environments faced by firms today. Further, marketing provides an effective vehicle for achieving entrepreneurship within the corporation. As some have argued, marketing is the home for the entrepreneurial process. As a process, a firm's entrepreneurial orientation has three key dimensions: innovativeness, risk taking, and proactiveness. As such, it does not just apply to start-up ventures, but is an orientation that is applicable to organizations of any size. A firm's marketing orientation, on the other hand, refers to the size and consistency of its investment in marketing activities and people, and includes the firm's adoption of the marketing concept (i.e., a customer orientation). An exploratory survey was developed in order to test the research hypothesis. A mail questionnaire was used to elicit responses from the chief operating officers in a random sample of 116 companies in Central Florida. The questionnaire consisted primarily of a 13-item summated scale to measure a firm's entrepreneurial orientation, and 22 separate items concerned with the firm's structure and policies in the marketing area, the sources of customer feedback it relies upon, and attitudes/perceptions regarding the impact of the marketing department. The results provide support for the research hypothesis. Entrepreneurial scores for firms, determined by summing the 13-item scale, were higher for firms in which there was a formal marketing department, in which marketing professionals were in senior executive positions, in which marketing research is a regular activity, and where marketing is felt to play a major role in innovation and the strategic direction of the firm. Based on these results, managers concerned about rekindling or maintaining the entrepreneurial spirit within the corporation may find it appropriate to begin by examining the firm's marketing orientation and operations. To what extent is the company structure, its reward systems, and the way in which its resources are allocated, reflective of an emphasis on marketing activities and customer satisfaction? Is the marketing function held accountable for the creation and management of innovative product/market opportunities? Suggestions are also made for further research, and the study's limitations are denoted. Researchers are encouraged to devote efforts towards identifying whether the relationship between marketing and entrepreneurial orientations is causal, and in which direction. What variables may modify the nature of this relationship? Also, it is important to determine how a company's marketing and entrepreneurial orientations jointly and separately impact on bottom-line performance.

Little is known about what really makes ventures succeed or fail and therefore, what one should consider when deciding whether or not to back a corporate venture. What is required are many more systematic studies of the venturing process. In this study we look at one small part of the process; the way in which managers go about evaluating a venture and what importance they attach to the various criteria they use to assess corporate ventures as they decide whether or not to support them. The other issue of interest is whether, with venture decision-making experience, there is a shift in the importance of criteria. Do managers inexperienced in venturing, start off with one set of weightings on criteria and then learn by experience to weigh criteria differently? Nearly every venture decision will be reviewed or have to pass some form of limited approval by, or get logistical support from, at least some managers who may be inexperienced. The degree of their support and approval will depend on the inexperienced managers' model of what constitutes an appropriate venture. Therefore, it is important to study both the novice and the experienced venture manager. This study used conjoint measurement procedures to quantify the importance of several factors to managers making go/no-go decisions as to whether they would support a series of hypothetical corporate ventures. The results indicate that there is a very high correlation between the judgements of inexperienced managers and those that have had some involvement in venture decision making. In virtually every case the direction of the preference for levels is identical. The effect of experience is not to change the model that the manager uses, but rather to crystallize the preferences and tradeoffs involved. The most interesting result was the overriding importance attached to corporate fit. The message is clear: do not expect support from any managers, inexperienced or otherwise, if there is no perceived fit between the firm and the venture. There were also relatively high levels of importance attached to seven other variables: size of investment, presence of an experienced venture champion, corporate experience with product, low threat of competition, utilization of proprietary technology, rate of return, and gross margin. For the sample in this study an optimal venture proposal can be described via the following criteria: •High corporate fit•Low initial investment•Experienced venture champion•Experience with product/service•Low competitive threat•Proprietory technology•High gross margin•High rate of return

The research studied the extent to which the employment size of a new firm is set the start, how many subsequently grow, and whether those that survive and grow have any identifiable characteristics. Answers to these questions would help to determine whether future assistance programs aimed at improving the performance of new firms should concentrate on the actual start-up process or on the first few years of trading. The study was pan of a series conducted in St. Joseph County, Indiana, a county that had experienced the same economic decline as the rest of the midwest, rust-belt of the United States. It formed part of a community effort, named Project Future, to develop a strategy for industrial regeneration. The series first examined the characteristics of the new firm population during the years 1976–1982 (Birley 1985, 1986), and two results emerged that were pertinent to this study. First, 92% of the firms that ceased trading in the first two years were the smaller ones, employing less than 20 people: second, the entrepreneur in the county tended to use only the informal networks of family and friends when gathering the resources of the firm, rather than the formal networks of accountants, lawyers, realtors, and banks. The question that remained, therefore, and which formed the basis of this article, was the extent to which it was possible to identify, and thus focus the strategy upon, those firms or industrial sectors that exhibited growth characteristics. Three research questions were posed: how many tended to grow during the first few formative years; what was the rate of growth and on what dimensions did it occur; and when did growth occur—were there differences in the growth of firms of different ages? The primary measure of growth used was that of employment. For both the start of the firm and at the time the questionnaire was administered (1983), data were collected on the number of owners, part-time and full-time, and on the number of employees both part-time and full-time and on their level of skill. Financial data included sales level, profits level, and forecast sales trend. Indicators of possible change were either an altered legal structure or a move of premises. Control variables included incubator characteristics, industry, and supplier and customer geographic base. The results of the study show that, for the majority of the firms, employment size was set at the start. No aggregate growth occurred in either full-time or part-time jobs, nor was there any apparent age effect. During the six years studied, firms that had increased the number of employees were of all ages. Those firms that grew sales during the early years did so by increasing the customer base, and without generating further jobs. Analyzing growth by industry, only one significant result emerged: Entrepreneurs from smaller companies tended to set up in competition with their incubator firm, while those from larger firms tended to start firms with no apparent relationship to their previous employment. The major inference from this study is that growth would appear not to be a primary objective of the entrepreneur. Further research to test these results is clearly necessary. Should they be replicated elsewhere, however, future strategies to improve the job generation capabilities of new firms would be most fruitful if directed at building a solid foundation for all firms rather than trying the impossible task of “picking winners.” Such assistance can only be provided at the time that the resources necessary for the successful launch of the firm—premises, equipment, orders, employees, money—are being assembled. Since almost all of these firms are local in nature, strategies that devise specific schemes tailored to meet local needs and using local people are most appropriate. By contrast, the small number of high-growth firms should be easily identifiable in the community and assisted individually.