Creative Entrepreneurship in a Downturn
Entrepreneurs,
take heart. True, the global economic malaise removes opportunities and
precious resources—but also adds them in new and interesting ways, argues HBS
senior lecturer Bhaskar Chakravorti. In this Q&A he identifies reasons for
optimism, and shows how entrepreneurs can think differently about bad news.
Key
concepts include:
- There are three fundamental decisions facing any business in good times and bad: where to play, how to deliver, and how to win.
- Entrepreneurs should systematically identify "downturn needs," including necessities and affordable luxuries, substitutions for previous products and services, and products that deliver value for money.
- To serve these needs, look for downtime resources that might be available at relatively low cost.
- Think business model, says Chakravorti. Consider the unintended consequences of cost cutting, and instead focus holistically on the interconnected parts of your entire business model.
Whatever the headlines predict these
days, there may still be good news for entrepreneurs. Many successful products,
services, and pivotal ideas have been launched during an economic lull,
according to Bhaskar Chakravorti, a senior lecturer of business administration
at Harvard Business School, citing the examples of Motorola, Southwest
Airlines, Revlon cosmetics, Hewlett-Packard, and MTV.
Good ideas are not hard to come by.
The more complicated part is to harness the diminishing supply of capital. But
capital can still find its way to a credible idea, he argues.
"I have high hopes tempered
with great caution," says Chakravorti. "The entrepreneurs who can
capture the limited resources have the potential to do well. Shortage and
adversity are powerful stimuli for focusing the mind."
At HBS, Chakravorti teaches and
writes on entrepreneurship management, new venture formation, and innovation.
He is also a partner of the international management consulting firm McKinsey
& Company, where he is a leader of its Innovation practice. Chakravorti has
advised over 30 Fortune 500 companies on innovation, growth, and new
business-building in industries such as technology, health and consumer care,
and renewable energy. His scope of work to date encompasses the United States,
the European Union, Brazil, India, Malaysia, South Korea, Philippines, Canada,
and multiple African countries.
In our e-mail interview, Chakravorti
explains how entrepreneurs can systematically identify opportunities all around
them.
Martha Lagace: Your work highlights many opportunities for innovation and
success despite the serious market conditions facing entrepreneurs. What about
past experience and the current downturn gives you hope and confidence that
entrepreneurship can still thrive?
Bhaskar Chakravorti: Let me start with a replay of a conversation I had recently
with Frederick, the person who runs the auto repair shop where I regularly take
my 1998 and 2002 vintage cars. I asked him if he was experiencing a big uptick
in his business in the last few months. He said indeed he was, and wondered why
I had asked.
Well, I told him of some rules of
thumb I have been working on to isolate entrepreneurial opportunities in a
recession, and this question was meant as a test for one of the rules. I knew
of several new car dealerships that were scaling back or closing down. Clearly,
though, people were still driving cars, so the only way the math could clear
was if more people were going to Frederick's shop or to other auto repair shops
to get their old cars to go a few extra miles. The rule of thumb here is
simple: In an economic downturn, consumers consume less of many products.
Invariably, this creates the need for substitutes (in the example with
Frederick, repaired older cars are a substitute for new car purchases)—at least
for some of the most essential products.
“In an economic downturn, consumers consume less of many
products. Invariably, this creates the need for substitutes.”
Another outcome of a drop-off in
consumption and employment is a need for products that become more valuable
during such periods when consumers have more time on their hands. An astounding
number of media companies and brands—Fortune magazine, MTV, CNN, USA
Today, and so on—started during economic downturns. When people are laid
off from jobs, they need re-training. Employers need confidential data to
remain protected despite large numbers of their workers being let go. All of
these broad trends create the need for new products and services: adult
re-education, corporate data security, etc. And indeed, we see companies that
have stepped into the breach, such as the very large University of Phoenix from
an earlier downturn or a tiny firm like Fidelis Security Systems during the
current recession.
With firms scaling back and with the
scarcity of capital for launching new ventures, this creates huge possibilities
for an entrepreneur to identify the opportunities, get creative about
assembling resources, and go after them with the knowledge that the potential
for competitive advantage will be greater than in a boom period. I have a lot
of hope for the entrepreneurial momentum that builds during a downturn.
If history is any guide, we can
expect some significant industry shapers to emerge from the current crisis.
During the 1930s alone—the period to which we often compare our situation
today—there were entrepreneurial start-ups that went on to become household
names: Motorola, Hewlett-Packard, Texas Instruments, and many others.
All that said, it is simply
irresponsible for us to tell students, managers, investors, or inventors to
just go out and be entrepreneurial. As we are well aware, capital is in short
supply. Big companies are scaling back on higher risk projects and new
ventures. This has a domino effect on the venture capital providers and
subsequently on the angel investor community. Each group is concerned that
there will not be an investor willing to fund or buy into a venture down the
road. The net result: Investment in start-ups fell 33 percent in the fourth
quarter of last year compared with that of the previous year. Only six
venture-backed companies were able to go public last year in the United States.
According to a report in the Wall Street Journal, 260 venture-backed
businesses were acquired by big companies last year. This is the first time in
five years that the number has gone below 300. Together with the credit crunch,
we are witnessing a plethora of potentially great opportunities but with a
measly amount of capital to fund them.
I have high hopes tempered with
great caution. The entrepreneurs who can capture the limited resources have the
potential to do well. Shortage and adversity are powerful stimuli for focusing
the mind. All of this, by the way, is "private stimulus" and is in
addition to any new opportunities likely to be created by the "public
stimulus" being orchestrated by the Obama administration.
Q:
Elsewhere you have described three fundamental decisions facing any business:
where to play, how to deliver, and how to win. Taking the first fundamental,
how can an entrepreneur think creatively about making the best of a downturn in
terms of where to look for demand? Are there lessons from the past that could
be used for guidance?
A:
Clearly there will be areas such as infrastructure, health care, education,
clean technologies, etc., that will get a boost because of investments and
demand from the public sector. Let us put these areas aside—because they will
be readily identifiable. I am more interested in isolating the opportunities
that arise organically and will be developed through private initiatives.
Here, I think it is critical to
systematically identify what I would call "downturn needs." There are
many different kinds of such needs. First, there are needs that are created by
the substitution effects I spoke of earlier. Second, there are needs that
emerge because of the availability of excessive time or the unavailability of
productive employment. These are by way of necessities. In addition, there is
also a need for affordable luxuries. After all, just because consumers are
cutting back doesn't mean that they do not still enjoy products that give them
pleasure and entertainment—or even distraction from the difficult times around
them. The third category of needs is a more obvious one: products that deliver
value for the money spent on them. When consumer budgets are tight, such
products will have plenty of appeal.
“If history is any guide, we can expect some significant
industry shapers to emerge from the current crisis.”
In terms of lessons from the past,
there are many examples that we can turn to. Taking the last of the needs
first, in the airline industry alone, Southwest Airlines, Ryanair, and JetBlue
were founded during downturns on the principles of delivering value. In terms
of affordable luxuries, consider the emergence of cosmetics, such as Revlon,
and media, such as CNN, during downturns. I already offered some examples of
opportunities that come out of the substitution effect or of products that
complement the surplus time that consumers may have on their hands. You could
go even further and brainstorm a fairly long list of ideas: for example, think
along the lines of meals at home, budgeting tools, job matching, etc.
Q:
As for the second fundamental, how to deliver, what creative opportunities in
this downturn do you see for delivering products or services more cheaply and
effectively?
A:
The opportunity here is in all the surplus resources that you can tap into and
harness. For instance, the downtime created by the collapse of the Internet
bubble gave rise to a host of new applications that we now collectively know as
Web 2.0. Technologies and materials left unused due to the collapse of one
industry can be creatively re-directed towards others that can take advantage
of the low input costs. Silicon and wafer cutting technologies that were
rendered surplus after the semiconductor industry slowed down during the last
recession were picked up by a fast-growing solar energy industry.
Q:
What advice would you give would-be entrepreneurs and investors for following
the third fundamental, how to win?
A:
My advice here is simple: Think business model.
Most managers tend to focus on cost
management and operational efficiencies when they strategize during a downturn.
While there is nothing wrong with that, I do think such measures often miss the
unintended consequences of the actions.
Cost cutting can severely impair
your ability to be competitive or could cause you to lose customers. This
creates an opening for entrepreneurs who think holistically. They consider
mutually reinforcing changes in the entire business model that encompasses many
interconnected elements: customer acquisition and retention, costs and
productivity, firm scope, pricing, growth platforms, etc. Some of the finest
examples of business model innovations, whether it is IBM's outsourcing of key
elements of the IBM PC or Salesforce.com's offering of software as a
subscription service, evolved during downturns.
Q:
What particular entrepreneurial activities seem to be making the best of the
bad economic situation and seemed poised for future success?
A:
I can think of several. But you don't have to look very far; just read the
newspapers (which are in difficult circumstances themselves) a bit more closely
and talk to people (like Frederick, the auto shop owner) in your neighborhood.
On the very day that the Wall
Street Journal had a story on how venture financing is down—February 11,
2009—the New York Times had a story about a few individuals who are
ideal illustrations of what I am talking about. Craig Brandman has a company
called Medilinq that provides medical discounts for people with low incomes or
who are unemployed; he predicts that participation will grow six-fold by
year-end. Peter George founded Fidelis Security Systems to provide protection
against potential data breaches such as those by recently laid-off employees;
he said his sales rose by 55 percent in 2008. Charles Burckmyer and Scott Noll
have created a fund to buy companies that are now available for a song and can
be turned around at a relatively low cost.
The examples go on and on. But there
is a method to finding the sweet spots. A systematic application of such a
method also helps create a credible signal to the other side of the market that
provides entrepreneurial capital. Such signals are essential for the capital to
find its way to a good idea. That is the key message.
Q:
What are you working on next?
A:
I am working on several articles—one is called "Letting No Serious Crisis
Go to Waste: Is a Downturn Really a Good Time to Turn towards
Entrepreneurship?"—that develop the framework for choosing entrepreneurial
opportunities in economic downturns and credibly signaling the attractiveness
of the opportunities to capital providers.
Also, I am interested in mapping
different categories of opportunities to different classes of capital
providers: corporate, public sector, venture, and angel. I am collecting data
to help inform this mapping process. With this I hope I will be able to provide
a system for idea developers and capital providers to find the appropriate
matches and enable entrepreneurship to flourish even in these constrained
times. 
About
the author
Martha Lagace is the senior editor of HBS Working Knowledge.
http://hbswk.hbs.edu/item/6118.html
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