Back to Amar Bhide home page
 

Industry Standard, March 6, 2000 

 

 

Imagine a book that aspires to be the definitive study of how new businesses are formed -- not laundries and hairdressing salons, but businesses that grow into sizable enterprises, even if they remain small by the standards of corporate behemoths.

And imagine that such a book, published in 2000, contains no discussion of the Internet -- doesn't mention the Internet, in fact, in its otherwise obsessively thorough index, even though one of its central tenets is that "promising startups cluster in market niches characterized by high uncertainty generated by technological" or other forces.

Now imagine the strangest thing of all, that in spite of failing to acknowledge the 600-pound gorilla munching noisily at the table, the book is filled with useful and even startling insights based on exhaustive research. Such is the strange case of The Origin and Evolution of New Businesses (Oxford University Press) by Harvard Business School professor Amar V. Bhide, who purposely excluded the Net from his otherwise authoritative-sounding study.

The question, of course, is why?

"I live off the Internet," Bhide said in a recent telephone interview, noting that he was zapping files around long before there was even a World Wide Web. "I'm not a luddite. On the other hand, I think the processes by which new Internet businesses are being formed and funded and taken public are aberrant." In other words, we're in themidst of a bubble. And, says Bhide, "I think it's going to bust."

The funny thing is that Bhide's insights apply to some Internet startups after all -- just not the ones getting all the ink. Indeed, some of the biggest players on the Net started by following the pattern Bhide sets out for successful new businesses. For these very reasons, budding Internet entrepreneurs --especially those who believe the rapid cycle of idea to VC to IPO can't last forever -- simply can't afford to ignore the professor's ideas, despite his decision to entirely overlook the Internet.

Perhaps the best way to explain those ideas is to start with the myth they appear designed to shatter. Free associate for a minute: If you hear "entrepreneur," what comes to mind? A risk-taking go-getter, right? A classic type-A personality who comes up with a great new idea and pursues his dream of building it into a business with single-minded tenacity.

Bhide's research suggests this picture is all wrong. If anything, it's the exception that proves the rule. In fact, most new businesses are of the lawn-care variety: At best, they might provide a living for their proprietor, but have little or no profit potential.

To figure out what sets apart successful businesses, Bhide takes an approach that's akin to 19th century psychologist William James' view of religion. James considered religion to be of two kinds: chronic and acute. Most people might be called chronically religious, but to really understand the phenomenon, he felt, one had to focus on the few who were acutely religious, so the thing might be observed in full flower.

To Bhide, all those hairdressers and lawn-care outfits are chronic businesses. To find some acute businesses for his inquiry, he focused on the 1989 Inc. magazine list of 500 fastest-growing small companies. In 1988, these firms had average sales of $15 million, 135 employees and five-year sales growth of 1,407 percent. They are exemplars of the kind of firm some researchers have called "gazelles," which account for most of the new jobs created in the small-business sector.

In studying these firms, Bhide comes up with some striking findings. First, far from being high-risk ventures, these businesses were started on a shoestring by entrepreneurs who didn't have much to lose. Their median startup capital was just $10,000, and more than a third of the founders he interviewed didn't even have to forgo a steady paycheck, having already quit or been fired from their regular jobs.

Nor did they have to rack their brains to come up with a big idea. Instead, the typical entrepreneur of a high-growth venture begins with a modification or even duplication of an existing product or notion, often in an unsettled or fast-changing field.

Instead of a fancy business plan, the venture thrives as a result of the founders' adaptability. And instead of vision in the traditional sense, the key instead appears to be what Bhide calls "myopic opportunism," or a willingness to exploit short-term advantage in the startup years. As to personality types, most of the usual generalizations appeared wrong. More important than anything else was a relatively high tolerance for ambiguity. Other useful skills: "tactical ingenuity, self-control, perceptiveness and sales skills."

The visionary and charismatic advocate of the "big idea"--the human force of nature who simply will not let anything get in his way-- is the rare exception. As is evident from Bhidé’s account of the early history of Federal Express and its dynamic founder, Frederick W. Smith, there are good reasons why this sort of thing is rare. FedEx made it big, but it took a series of small miracles all along the way.

Bhide, a 44-year-old alumnus of the Indian Institute of Technology and Harvard Business School, speaks and writes like a classic intellectual, but entrepreneurship is in his blood. His father started his own glass-related business in Bombay in the 1930s, and when Bhide came to the U.S. in 1977, it was with the intention of returning someday to run the family business.

Instead, he piled up graduate degrees and launched his own entrepreneurial ventures, none of them particularly successful. "I fell on my face," he says cheerfully.

In one, he was going to have Japanese securities filings translated into English in his native India and then make them available to U.S. investors. It was a new idea, but it never got off the ground. He also developed a scheme to give investors a piece of the action in residential real estate by helping cash-short yuppies buy homes. Another big idea.

He launched a little hedge fund, but it fell apart along with the collapse of Long Term Capital Management, the much-bigger Nobel-prize-studded fund whose demise nearly took down a good chunk of the financial world.

Bhide hasn't been moved to start any Internet businesses, though it would seem the ideal arena for entrepreneurs playing by his rules. "High uncertainty and low capital and opportunity costs create a 'heads I win, tails I don't lose much' proposition for entrepreneurs," he writes. But after holding true at the outset (Yahoo (YHOO) was founded by graduate students with little money and less to lose), Bhide's precepts have been buried under an avalanche of capital.

"What's different," he says, "is the breakdown of the Darwinian process," whereby businesses that were unfit or founded by unskilled entrepreneurs would fail long before billions of dollars were sunk into them. It's as if political primaries were abolished and the parties found themselves backing untested candidates for the White House.

"Either this is an unprecedented revolution that deserves to be disassociated from normal economic forces," says Bhide, "or there's something spooky about all this."

He cites the personal computer business as a contrast. He describes its development as a "normal process" in which many entrepreneurs vied for dominance, much like the early auto industry. After a while, several firms rose to pre-eminence and got funded, eventually going public.

"All that was good and healthy. That has been the pattern throughout technological history," he says. "Only a few like Compaq (CPQ) jumped the gun, and these were held to a higher standard" by venture capitalists.

He notes that venture funds on average don't especially outperform the stock market, particularly on a risk-adjusted basis. But unlike mutual funds or traditional money managers, he suggests, there are probably bigger differences between good and bad venture capitalists, with the most successful enjoying a halo effect -- themost promising businesses are brought to them first-- that only reinforces their lead.

Bhide doesn't pretend to have an explanation for the Internet funding frenzy, but he points to an earlier, analogous phenomenon as a cautionary tale. "Biotech proves the point that these things don't work," he says, noting that from 1990 to 1992 the amount of capital invested in the once-hot biotechnology field shrank by two-thirds.

That's not to say he doesn't see a future for Internet entrepreneurship. "The 2005 Inc. list will have lots of Internet companies," he says. "But they will follow the traditional pattern."

Daniel Akst is a writer teaching this semester at UC Berkeley's Graduate School of Journalism.

Back to Amar Bhide home page