A model for new and ongoing ventures

The entrepreneurial strategy matrix: a model for new and ongoing ventures

Matthew C. Sonfield

Even for different degrees of risk and innovation, these suggested strategies can aid in decision making for the business venturer.

Entrepreneurship has become a major focus of business thought and research. Even its definition has expanded considerably in the past two decades. At one point, the terms small business and entrepreneurship were used interchangeably. Today, entrepreneurship can refer to business activity of all sizes–new and independent firms as well as ongoing enterprises within well-established organizations.

Here we focus on one aspect of entrepreneurship: entrepreneurial ventures, both new and ongoing. In doing so, we answer the questions: What are the strategic alternatives for a given venture? Which of these alternatives is more or less likely to result in the best business performance? And in what ways can these alternatives be implemented?

Entrepreneurial Variables

Five factors, or “independent variables,” have most frequently been related to entrepreneurial performance:

1. Autonomy — independent action and self-direction;

2. Innovativeness — new ideas, experimentation, and creativity;

3. Risk Taking — venturing into uncertainty and committing assets;

4. Proactiveness — acting in anticipation of future problems or needs;

5. Competitive Aggressiveness — strongly challenging competition to achieve entry or improve position.

With these five possible variables, most resulting models are both very sophisticated and very complex. Lumpkin and Dess (1996), for example, propose a typology of four “alternate contingency models of the entrepreneurial orientation-performance relationship.” The 16 independent variables include entrepreneurial orientation (5), environmental factors (4), and organizational factors (7), and were used to explain five measures of organizational performance.

Models such as this are highly impressive and valuable in terms of the theory and research involved. But most aspiring entrepreneurs would find such complexity and sophistication intimidating. It is highly unlikely that an entrepreneur would be receptive to using such a typology, even with the recommendation and assistance of a consultant.

Nevertheless, a contingency model of entrepreneurial venturing is of value to the inexperienced and unsophisticated new businessperson as well as to the established entrepreneur. So we present a more practical predictive model to which such entrepreneurs would be receptive and which they could easily use. Its primary emphasis concerns its use in analyzing and designing new ventures, but this model is equally valuable in evaluating (and modifying as needed) existing ventures.

Models of this nature already exist for large businesses. One of the best known is the Boston Consulting Group (BCG) Matrix, which is used frequently for portfolio analysis by large, well-established companies with a variety of strategic business units. Our model can be considered a similarly useful matrix for entrepreneurs analyzing a single line of business activity.

THE ENTREPRENEURIAL STRATEGY MATRIX

Of the five well-established independent variables cited above, two are easier for an entrepreneur to grasp and measure: innovation and risk. Compared to autonomy, proactiveness, and competitive aggressiveness, these two variables can be more concretely defined and can better fit the specific example of an entrepreneurial venture.

For the purpose of this matrix, innovation is defined as the creation of something new and different. In terms of measurement, the newer and more different the proposed product or service is, the higher it would be scored on a measurement scale. By product or service, we refer to the total entity to be marketed; this includes any aspect of it, such as the design technology, the manufacturing process, the distribution channel, or the promotional strategy, that might make it innovative.

Risk is defined as the probability of major financial loss. What are the chances of the entrepreneurial venture failing? And how serious would be the resulting financial loss? The same dollar amount of possible loss might be more serious to one entrepreneur than to another. So measuring risk involves not only estimating the probabilities of various levels of success and failure outcomes, along with the quantitative levels of those outcomes, but also the impact of possible negative outcomes on the entrepreneur’s specific financial condition. Moreover, for most entrepreneurs, self-image and potential risk to self-image are very important. Because financial failure has a negative impact on self-image, a psychological component must also be included when the entrepreneur places a measurement on risk.

In comparison to innovation, then, risk has far fewer dimensions. Whereas there are many ways to increase innovation, reducing risk largely focuses on financial factors, with a secondary consideration of self-image and ego.

By combining these two independent variables, a four-cell matrix emerges, as shown in Figure 1. Like several well-known matrix models, such as the BCG Matrix, this model allows even the most inexperienced entrepreneurs to characterize their new or existing venture situations and identify appropriate strategies. The model places innovation on the vertical axis and risk on the horizontal axis, and denotes the levels of these two variables using I and R for high levels and i and r for low levels.

[Figure 1 ILLUSTRATION OMITTED]

High innovation, Low Risk: I-r

The top left cell, I-r, indicates high-innovation/ low-risk situations. This type of venture would involve a truly novel idea that carried little risk, possibly because the venture requires little investment. The inventors of products such as Lego[R] building blocks and Velcro fasteners developed ideas from which prototypes could be hand-built at little expense. After test-marketing for preliminary consumer acceptance, the simple nature of the product and the low technology required for manufacture allowed small-scale production either directly or by subcontracting.

Even more complicated or high-tech products can sometimes be placed in the I-r cell. Many of Silicon Valley’s largest electronics companies started in someone’s basement or garage on a shoestring investment. David Packard’s and William Hewlett’s initial garage venture in 1938 involved an investment of $538 and is today the area’s largest employer.

On rare occasions, an innovation that requires a large financial investment can still be considered to have a low risk. Such a situation would involve a highly innovative new product or service that could initially be protected from competition, linked with a firm large enough that the financial investment is not so risky. Such a situation can rarely, if ever, occur in a small business context. A large business example would be Procter & Gamble’s highly innovative new fat substitute, olestra. Although this product required a major R&D investment, it posed little risk to a firm the size of P&G.

High Innovation, High Risk: I-R

The top right cell of the matrix, I-R, indicates high innovation and high risk. As in the top left, these ventures involve novel products or services, but the risk is high, either because initial financial investment must be large (relative to the firm’s financial size) or because competition is greater. For example, to produce and market a new drug or a new automobile requires a major investment and also faces well-established competition. Such initiatives are generally attempted today only by large corporations. When an individual, such as a Malcolm Bricklin or a John DeLorean, dares to start a new automobile company, the results are impressive but rarely successful.

Similarly, the new anti-obesity drug Redux, developed by Interneuron Pharmaceuticals, is an example of I-R. Although this highly innovative new drug can be expected to have a very large consumer demand (much like P&G’s olestra), it is much chancier for this company. Because the firm is so small–only 85 employees–the R&D and other start-up costs of Redux pose a major financial risk.

Low Innovation, High Risk: i-R

The lower right cell, i-R, is perhaps the most common situation for small business ventures, and is the most familiar to small business consultants. Most new business start-ups involve somewhat conventional entries into well-established fields. Whether retail, such as the new dry cleaner or restaurant in town, or commercial, such as yet another printer or machine shop, they involve a fair amount of investment, which usually means most of the savings of the business owner. And they are established in direct competition with other similar businesses. Still, as most experts know, the lure of owning one’s own business is strong, and the most common path to small business ownership is from employment by others in the same type of business.

Low Innovation, Low Risk: i-r

Some ventures fall into the lower left cell, i-r, where not only is innovation low but so is risk. If minimal investment is required, or market demand is strong and competition is weak or nonexistent, the risk will not be very high. Some service businesses, such as home or office cleaning or piano instruction, require minimal financial investment. Small towns often lack certain basic services, and a new venturist with modest goals may face a small risk of failure by providing one of those services. Thus, although these ventures may not offer huge potential payoffs, the corresponding low risk makes them relatively safe.

STRATEGY IMPLICATIONS

The value of the Entrepreneurial Strategy Matrix is that it suggests appropriate avenues for different entrepreneurs. When the entrepreneur identifies the cell that best describes the new or existing venture being contemplated, then certain strategies are indicated as more likely to be effective.

It should be obvious that certain cells are more advantageous than others. A high-innovation/low-risk venture is certainly preferable to a low-innovation/high-risk one. Yet for every venture found in I-r, large numbers can be found in i-R. Risk is more common than innovativeness in the business world.

The strategic implications of the Matrix are twofold. First, entrepreneurs will find certain cells preferable to others, and one set of appropriate strategies involves moving from one cell to another. Second, such movement is not always possible for an entrepreneur, so the appropriate strategies involve reducing risk and increasing innovation within a cell.

The initial step in the strategic analysis is for entrepreneurs to place their venture ideas into the best-fitting cell. Although some ideas may seem to fall on the dividing lines, most should fit within one cell or another. Figure 2 summarizes appropriate strategies for each cell in the Entrepreneurial Strategy Matrix. Once you have identified the appropriate cell, read on for the pertinent discussion of the strategies.

[Figure 2 ILLUSTRATION OMITTED]

The I-r Cell

As mentioned above, I-r is obviously a desirable cell in which to be. If an objective analysis of your venture indicates this is where you fit, you should move quickly to take full advantage of the situation. Protect the innovation with patents, copyrights, and so on, and get into the marketplace quickly before any possible competition. This will be your “first mover advantage,” or “pioneer advantage.” Keep risk low by locking in both investment and subsequent operating costs. For internal operations, place a major focus on costs by developing and using monitoring and control systems. For contracted external activities, such as those performed by suppliers and distributors, negotiate long-term contracts with protections against unacceptable cost increases. The strategy is to stay in I-r and keep competitors out.

The I-R Cell

In I-R, the chances taken offset the advantage of the novelty, and entrepreneurial success becomes less certain. How could Malcolm Bricklin or John DeLorean have reduced the risks inherent in their sports car ventures? Not easily. The very nature of their products required major capital investment and thus presented high risk. Both men did reduce their financial risk by developing networks of franchised dealers who were required to invest in the venture prior to production. Still, the break-even levels for automobile production and distribution were simply too high for a new and independent auto manufacturing operation. Some sort of joint venture with an established auto maker would have allowed the use of existing manufacturing and distribution facilities. Automotive entrepreneurs who followed such a joint venture strategy successfully include Donald Healey (with Austin) and Carroll Shelby (with Ford).

Risk can also be lowered by reducing investment and operating costs in other ways, short of forging a joint venture. Operations with high investment or operating costs (such as manufacturing or distribution) might be outsourced to other established companies. Operations that are performed internally can be designed and administered with the primary objective of lowering costs.

The strategy for I-R, then, is to reduce risk without compromising innovation. The ideal action would be to move left into I-r, but it will usually be more feasible to simply move left (that is, reduce risk) within the I-R cell.

The i-R Cell

This most common venture situation is all too familiar to those involved in studying and/or assisting small businesses. Most start-ups are not innovative, yet the new entrepreneur generally takes a major financial risk. The ideal moves would be left into i-r (significantly reducing risk), up into I-R (significantly increasing innovation), or, best of all, left and upward into I-r (reducing risk and increasing innovation).

Inherent in the choice of a specific business is a certain level of required financial investment. Efforts can be made to lower the investment or operating costs, or to find better and less expensive sources of financing. But such a venture can not be financed for less than a certain amount. Similarly, though an entrepreneur in this cell should strive for innovation, opportunities for significant innovation in i-R ventures are usually limited.

Nevertheless, creativity can often generate innovation in an i-R situation. The objective is to create a competitive advantage, often in an industry where it rarely exists. An example is a well-known dairy store in Connecticut that differentiated itself from its competition and became a sales volume powerhouse by creating a virtual mini-amusement park around the store for its patrons and their children. The store has become a magnet, attracting vast numbers of customers from far beyond the normal retail trading area.

The more feasible strategies involve improving the situation within the cell by reducing risk or increasing innovation enough to improve the chances of business success. A well-established tool, the business plan, can best enable the entrepreneur to follow such a strategy. Bookstore shelves are overflowing with guidebooks on business plans, so no explanation is needed here. The point is that a business plan forces the entrepreneur to conduct the objective analysis that will identify ways to reduce risk and increase innovation, and thus strengthen the position within the i-R cell. The business plan also may help the entrepreneur come to the difficult conclusion that the venture’s position within the matrix is just not defensible; the position can not be improved and the venture should be abandoned before further investment is made and lost. Of course, using a business plan would benefit the entrepreneur in any of the four cells.

Another popular way to reduce risk in an i-R venture is to start a franchise operation rather than an independent business venture. Although this route may increase costs because of the various franchise fees and royalties required, the established brand recognition and proven business practices obtained through franchising can lower risk considerably.

The i-r Cell

The i-r situation is the safe but conservative venture, and generally is low in potential payoff. With minimal new investment required, the strategic focus is to recognize the situation, be sure it is understood and acceptable, and maintain and defend it. Does the physician who chooses to open a practice in a small town that has long been searching for its only doctor understand the limitations to that practice? Is it very different from the school custodian who ventures into a one-person commercial maintenance business? Autonomy and reasonable security are inherent, but there is little likelihood of getting very rich.

Perhaps there is an entrepreneur inside you longing to get out. If so, are you the kind with creative, innovative ideas but little money? Do you have sufficient investment capital but a rather conventional idea? Or you are a big risk taker with a phenomenal idea? As with any new venture, no matter the situation, you must obtain as detailed and objective an idea as possible about what you’re likely to get into.

Like models previously offered, yet more specifically designed for the small, single-product or service venturist, the Entrepreneurial Strategy Matrix allows the entrepreneur to identify the type of venture at hand and choose the most appropriate strategies for that venture. Entrepreneurs and their advisors will find this model of value in their strategic decision-making.

References

I. Baird and H. Thomas, “Toward A Contingency Model Of Strategic Risk-Taking,” Academy Of Management Review, April 1985, pp. 230-243.

D. Cahill, “Entrepreneurial Orientation Or Pioneer Advantage,” Academy Of Management Review, July 1996, pp. 603-605.

G. Carpenter and K. Nakamoto, “Reflections on `Consumer Preference Formation and Pioneering Advantage,'” Journal Of Marketing Research, November 1994, pp. 570-573.

B. Hedley, “Strategy And The Business Portfolio,” Long Range Planning, February 1977, pp. 9-15.

R. Kerin, P. Varadarajan, and R. Peterson, “First-Mover Advantage: A Synthesis, Conceptual Framework And Research Propositions,” Journal Of Marketing, October 1992, pp. 33-52.

G. Lumpkin and G. Dess, “Clarifying The Entrepreneurial Orientation Construct And Linking It To Performance,” Academy Of Management Review, January 1996, pp. 135-172.

Matthew C. Sonfield is the Robert F. Dall Distinguished Professor in Business at Hofstra University in Hempstead, New York, Robert N. Lussier is an associate professor of management and research methods at Springfield College, Springfield, Massachusetts. The authors wish to thank Frederick D. Greene, Joel Corman, J. Douglas Frazer, and Mary T. McKinney for their contribution in the development of this matrix.

COPYRIGHT 1997 JAI Press, Inc.

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