One approach to being able to withstand external, or even internal, shocks to a business is to remain flexible about what the business is trying to achieve and how it will get there. While many popular business books and television programmes push the importance of developing a detailed business plan that clearly states the goals of the business, what products and services it will sell and forecasts of sales, profits and cash flows, there are other recognised approaches to the entrepreneurial process. One more flexible approach is termed 'effectuation' (1). This is frequently adopted by entrepreneurs establishing micro-businesses, particularly where they are not trying to raise external financing, so there is less pressure from external parties to develop detailed business plans that try to predict the future of the business.
In the traditional business case approach, often termed a ‘predictive’ approach, it is assumed that opportunities for new ventures or products exist and it is the role of the entrepreneur to discover those opportunities and then to determine how they can be exploited. In contrast, an effectual approach focuses on what opportunities the entrepreneur can create from the means they have available to them. In the case of external shocks, such as the recent recession, or internal challenges, the means available to the entrepreneur may be reduced or changed in nature. However, rather than being tied to predetermined goals, an effectuator asks themselves, "How can I modify or change what I was planning to do to use the means or resources I now have?" So, rather than judge themselves or their business as a failure, the effectuator opportunistically redefines their goals.
Studies have shown that in practice most entrepreneurs will combine both planning and effectual approaches, but each individual is likely to have a preferred mode of operation (2). An effectual approach has been linked to experience, with more experienced entrepreneurs increasingly adopting an effectual approach. The approach used by entrepreneurs will also vary with characteristics of the venture they are running. As noted above, when a start-up venture is externally financed, it is usually necessary to adopt a planned approach. Similarly, as businesses mature and grow they are more likely to become increasingly planned in their approaches as more stakeholders are involved and it becomes more difficult to dynamically redefine organisational goals.
Effectuation has been characterised as a set of four core principles:
- First, rather than focus on the return to be achieved from a new venture and how this may be maximised, effectuators consider the maximum loss that they can afford.
- Second, effectuators are flexible and make use of opportunities, rather than rely on their existing knowledge or other resources.
- Third, rather than seeking to predict an uncertain future in order to meet a set of pre-defined goals, effectuators focus on elements that they can control, that is the means that they have at their disposal or can access, and see what develops from them. That is, they are constantly experimenting and learning-by-doing.
- Finally, effectuators will seek to develop strategic alliances and to secure pre-commitments from key stakeholders such as suppliers and customers. Formation of such alliances and pre-commitments allows the entrepreneur to share the risk with these stakeholders, hence reducing possible losses to, or below, the level of affordable loss, and also allows new opportunities to be constructed by working with the stakeholders involved.
A recent study I was involved in investigated online home-based businesses, these are home-based businesses that carry out the majority of their key activities online, such as web developers, online stores and online community sites. The entrepreneurs involved demonstrated highly effectual approaches. For example, a number of them described how they had started a business at home as it kept the costs at a level they could afford, and could afford to lose if the business went wrong.
One respondent described how she and her partner moved their bookshop, which was once a physical shop, online. She was clear that they had never intended to run an online store – but with the growth of eBay and Amazon, visitors to their shop started to dwindle and she and her partner realised that they had to try something new. She described how they had some resources – a large stock of specialist books and a home that had a large garage they could use for storage. Other things they realised they would have to acquire – such as familiarity with IT. The latter they did by teaching themselves, first how to use a platform for specialist secondhand books and after that overseeing the development of their own website and online store. The move online has not only benefitted their business – which now attracts a much larger customer base than the physical store did – it also benefitted them as they can work on their business when it suits them.
While it may not be an approach that is suitable for all entrepreneurs, the creative use of existing resources, flexibility, experimentation and learning-by-doing that characterise an effectual approach may help some businesses to be more resilient – and even to find new and more profitable business opportunities.
- (1) Sarasvathy, S.D. (2001) 'Causation and effectuation: Toward a theoretical shift from economic inevitability to entrepreneurial contingency.' Academy of Management Review, Vol. 26, No. 2, pp.243-263.
- (2) Read, S. and Sarasvathy, S.D. (2005) 'Knowing what to do and doing what you know: Effectuation as a form of entrepreneurial expertise.' Journal of Private Equity, Vol. 9, No. 1, pp.45-62.