Variable risk preferences in new firm growth and survival

https://doi.org/10.1016/j.jbusvent.2016.05.001Get rights and content

Highlights

  • We adopt theory on decision making under risk and variable risk preferences and apply it to the context of new ventures.

  • Hypotheses are tested on detailed matched employee-employer data for 14,760 new ventures in the professional services industry

  • We examine how entrepreneurs’ attention to a survival reference point and a firm-specific aspiration point shapes the likelihood of exit or growth.

  • Our study offers a novel alternative to rational decision making models of new venture exit and growth.

Abstract

We outline and test a decision-making theory of new venture growth and survival. Building upon research in entrepreneurship and decision making under risk, we hypothesize that entrepreneurs' attention to survival and aspiration reference points changes based on venture age (experience-based learning), size (differences in decision complexity), and performance decision domain. Examining a panel of 14,760 new ventures in the professional services sector, our findings show how risk preferences change as a venture ages and increases in size. This approach offers a more nuanced view of decision making under risk and provides a theoretical explanation for the common patterns of new ventures' probability of exit and growth diminishing with age and size.

Section snippets

Executive summary

We develop and test a model of how entrepreneurs make decisions under risk to explain when and how decisions related to venture exit and growth are made as new ventures evolve. Previous models of new venture growth and exit have tended to focus on differences between ventures, assume that ventures either grow or exit, or that venture growth and exit are triggered by aspirations or performance thresholds that differ between entrepreneurs. We address these gaps by conceptually and empirically

A decision-making theory of new venture survival and growth

Our theory adapts March and Shapira's (1992) reference-dependent preferences model to provide a decision-making explanation for why new venture growth and exit vary with venture size and age. In their model, decision makers begin with a certain level of initial resources and go through a sequence of independent draws (i.e., performance feedback) that creates a history of cumulated or depleted resources, experience-based learning, and aspirations. Decision makers' preferences for future options

Venture age

A first tenet in our theory is that decision making in new ventures is different than that in established ventures since the former will be more attentive to the survival point whereas the latter will be more attentive to the aspiration point when facing financial distress (Wiklund et al., 2010). New ventures are different from established firms because they lack firm-specific resources, routines, and operations experience (Desai, 2008). As new ventures age, they learn through experience to

Data and methods

We analyze the full population of new incorporated ventures with one or more employees in the Swedish professional services sector from 1995 to 2002, encompassing 14,760 new ventures. Examples of the professional services prevalent in the data are accounting, law, management and technology consulting, and advertising. The panel of firms was assembled by Statistics Sweden, the country's official Bureau of Census. The Swedish tax authorities provided reliable accounting data, which are necessary

Descriptives: firm exit and growth rates

Table 2 shows the development of new ventures in the Swedish business services sector. All cohorts are included in the first row of Table 2, so the number of ventures is affected by attrition and right censoring of the cohorts at different ages depending on when they enter. Out of 14,760 new ventures entering the industry, 7147 (48.42%) exited during the period of observation, and the average survival time was only 2.64 years. This finding reinforces the idea that taking into account exit is

Discussion

This paper provides a comprehensive theory explaining new venture growth and exit as a function of entrepreneurial decision making under risk. We propose an alternative to standard decision models based on expected utility theories of new venture growth and exit and focus on growth and exit as a process of experienced-based learning and decision complexity for which changes in entrepreneurial risk taking are a function of an interacting series of changes within the venture accompanied by

Acknowledgments

We are indebted to Pär Åhlström, Marcus Asplund, Gaylen Chandler, Per Davidsson, Olof Ejermo, Tore Ellingsen, Stefan Jonsson, Phil Kim, Lasse Lychnell, Jim March, Frida Pemer, Siri Terjesen, Johan Wiklund, Frederick Witte, Tiantian Yang, and seminar participants at the Stanford GSB Macro luncheons, CIRCLE at Lund University, Universidad Pablo de Olavide, and Uppsala University for helpful comments. Financial support from the Swedish Research Council (340-2013-5460) and Riksbankens Jubileumsfond

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