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By Edward D. Hess,
Distinguished Executive in Residence and
Adjunct Professor of Management, Goizueta Graduate School of Business
Many people have asked me what characteristics are common in
successful entrepreneurial ventures. What circumstances are more
likely to produce success? This is an intriguing question taking
into account that over 70% of all new business ventures fail in
their first five years. The following is based on a review of
the academic research, personal experience, and a non-academic
study I did on the issue when I was an investment banker. Before
discussing the characteristics of successful entrepreneurs, let
me discuss seven general points:
1) A PORTFOLIO INVESTMENT APPROACH
First, it is important to understand that most business ventures
fail. Investing in them is a probability theory game. Professional
venture capitalists and private equity investors understand this
fact and, accordingly, they use a portfolio investment approach.
They do not place one large bet on a company; to the contrary,
they place many small bets across a diverse portfolio. These sophisticated
investors realistically expect that 7 out of 10 investments will
be losers or break even; 2 will be singles and one will be an
extra base hit, earning returns high enough to average out across
the portfolio and offset the "losing" 7 investments.
What does this mean for a private investor or high net worth individual?
It means you, too, should invest on a portfolio basis unless special
circumstances dictate otherwise.
2) THE LAW OF CYCLES-TIMING IS EVERYTHING
Every economy, industry, company, product, and capital market
goes through up and down cycles. Down cycles are characterized
by less liquidity, decreased transaction volume, and lower valuations.
Up cycles are transaction frenzied with demand outstripping supply
resulting in high valuations. Investing in up cycles requires
you to hold your investment until the next up cycle and, hopefully,
euphoria produces gains for you. What do the successful contrarian
investors do? People like Bass, Rainwater, Anshutz, Davis, et.al.
invest in solid companies and industries in down cycles. If there
is a problem with the company, they are confident they can fix
it before the next up cycle. Contrarians arbitrage the cycles.
Financial engineers arbitrage the difference in private and public
markets valuations. Two very different strategies. One of the
early successful investors, Bernard Baruch, said, "I made
all my money by selling too early." - a good statement to
remember. Also, understand who controls the decision when to sell
in any investment. General partners may have different timing
motivations than you as an investor. Some of my biggest missed
investment payoffs came when I wanted to exit and could not control
my destiny because someone else had the ultimate decision authority.
3) INVEST IN SOLVING EXISTING PROBLEMS
Many successful businesses solve existing problems or meet existing
needs. And many of the problems are not complex, nor revolutionary,
nor require genius solutions. If an entrepreneur tells you he
or she wants to create a new market, be wary. It is risky, time
consuming, and costly to try to create needs or new markets. The
trashcans are full of good products and technologies that customers
did not need and/or did not want to pay for. Business is really
pretty simple - meet a customer's known existing need. It is the
execution that is hard.
4) THE INVESTOR FOOD CHAIN
I was very fortunate to work for one of the Bass Brothers in the
mid-80s. They were very high up the sophisticated investor food
chain. My boss, though, had a healthy skepticism which he stated
"If this opportunity is so good, why didn't someone else
Unfortunately, most of us are pretty low on the investor food
chain. Absent personal relationships, by the time I see an opportunity
many bright people have seen and passed on the specific opportunity.
Keep that in mind. Another way to approach this issue is to ask
"Why am I so lucky to see this great opportunity?" At
Bass, for example while I was there, we invested in less than
1.5% of the deals we saw.
5) AN IPO EXIT - GET REAL
Be wary of business opportunities that depend upon an IPO for
the exit. Very few businesses go public. You may want to reread
"Going Public To Get Rich" in the April, 2003 Catalyst.
6) TWO MAJOR HURDLES
All successful businesses must successfully navigate two major
- The acquisition of enough profitable customers before they
run out of capital; and
- The ability to scale and "ramp-up" to successfully
service the growth.
Do not underestimate these 2 hurdles. First, most new businesses
overestimate the quantity, speed, and profitability of customer
acquisition. Getting customers to switch their buying habits is
hard. Secondly, many entrepreneurs fail in scaling their business
because they are unable to transition from being the doer to being
a manager, and they can not handle the simultaneous conflicting
time demands of hiring, training, implementing quality controls,
implementing financial controls, marketing, customer service,
etc. It takes, in most cases, different skills and experience
to manage a growing business than a start-up and it may take different
employees. Even successful entrepreneurs will tell you that they
waited too long out of loyalty before upgrading their staff with
more highly trained and experienced people. In looking at businesses,
evaluate how they plan to navigate both of these hurdles - how
realistic is management about the 2 hurdles.
7) EXPERIENCE COUNTS
Investing is a lot like betting on horses. What counts most? TRACK
RECORD. In your case, the horse is the people leading the business.
People execute business plans. What kind of experience is important?
Two types of experience will increase the probability of success:
PERSONAL CHARACTERISTICS OF SUCCESSFUL BUSINESS BUILDERS
- Invest in people who have previously successfully executed
business plans. Be cautious betting on a novice or a lawyer, accountant,
or consultant trying to start an operating business; and
- Invest in people who have deep industry experience, knowledge,
and relationships in the type of business they are trying to build.
Sam Walton, Ross Perot, Bernie Marcus and Arthur Blank all had
deep industry expertise in the businesses they built. And in each
case their employers had previously rejected their idea or concept.
Successful business builders are generally people driven to succeed.
This drive is motivated by a fear of poverty and by a desire to
earn the love and respect of key "others." This strong
drive is masked though in most cases by a friendly demeanor and
personable personality. There is evidence that successful entrepreneurs
and business builders can be people:
- Who came from a humble background and were driven to escape
that background - for example, Howard Schultz of Starbucks;
- If a man, the entrepreneur had a nice, weak father and a strong,
ambitious mother whom he adored and who conditioned her love on
his attaining success in school, jobs, sports, clubs, etc., for
example, Sam Walton and Jack Welch;
- Who are nice, friendly, outgoing types (great sales people)
who surround themselves with a strong, inside, detail-oriented
compliment and work as a team - Mr./Ms. Outside and Mr./Ms. Inside.
Look at Bernie Marcus and Arthur Blank; Look at Hewlett-Packard;
Look at Disney; the Walton brothers; etc;
- Who are not great geniuses nor necessarily innovators, but
are great learners who see opportunity by learning, copying, and
imitating or extending what others have done. They are not rigid
but are tinkerers trying to improve and to get it right; and
- Who were successful in team sports, student government, church
leagues, etc., where they learned to lead at an early age and
to convince people to follow.
As I half-jokingly say: I would bet anytime on a high achiever
who came from a poor background, was trying to earn his mother's
love, was a great people person, who had deep industry experience,
was a great sales person, and had a strong inside #2 person.
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