1)6jeé/ÜVeJ-

Cij-te-. tfris- c-frwpte'>, 6e w6te

1 Define an entrepreneurial opportunity and explain

why such opportunities exist.
2 Describe how technological, political/regulatory, and
social/demographie changes generale entrepreneurial
opportunities.
3 List the different forms that entrepreneurial opportuni-
ties can take and explain why sorne forms are better
for new firms than others.
4 Explain why new firms are more successful in sorne
industries than in others, and identify the major types
of industry differences that influence the relative
success of new firms.
5 Explain why established firms are usually better than
new firms at exploiting entrepreneurial opportunities.
6 ldentify the types of opportunities that new firms are
better at exploiting, and explain why new firms have an
advantage in exploiting these kinds of opportunities.
38 PART 1 Entrepreneurship: Who, What, Why?

lt still holds true that human beings are most uniquely human when they turn
obstacles into opportunities.
-Eric Hofer1 (SIIghlly paraphrased)

Have you ever wondered what to do with an old computer,
printer, or copier? If so, welcome to the club. Every year,
millions of people-and tens of thousands of businesses-
face this puzzling question. Technology is moving so
rapidly that computers and other kinds of office equipment
often become obsolete before they are worn out. ln other
cases, heavy use does lead to breakdowns that, given the
priee of new equipment, are not worth repairing. So what's
to be done with equipment that has outlived its useful-
ness? Two entrepreneurs, Randy and Vera Lewis, found
themselves wondering about this problem over and over
again. But they didn't just think about it: They looked into
the situation carefully and concluded that there was a real
business opportunity here-a way in which they could
provide a new service and develop markets few, if any,
other companies were serving. As a result, they founded
growing number of customers is seeking out So-Cal, and
the company is doing a rapidly rising volume of business.
Beyond that, the Lewises also state that they actually have
fun in the process. "We get to see ali kinds of stuff ... and
we really enjoy it." Truly, it doesn't get much better than
that for entrepreneurs-or anyone else! (see Figure 2.1 ).
Figure 2.1 Opportunities: Often the Start of th'e
Entrepreneurial Process
When Randy and Vera Lewis realized that literai/y millions of
computers, printers, and copiers that had out/ived their
usefulness were pi/ling up in offices and homes around the
wor/d, they founded a new venture that specializes in hand/ing
such equipment-So-Cal Computer Recyc/ers, /ne. This
company i/lustrates a basic fact: Opportunities are often the
starting point of the entire entrepreneurial process. <i
.!:
Q)

So-Cal Computer Recyclers, lnc., located in Harbor City, "'

Q)
a:
California. Their company receives old equipment from
c.
hundreds of different sources, often for free. What they E
8
then do with the equipment depends on its condition. First, '"
they wipe out ali existing data stored in computers and 0
other deviees. Then, they either restore it to working
:::J
0
condition and sell it to companies that specialize in ü

handling used equipment (resellers), or they donate it to a:

nonprofit organizations. Alternatively, they dismantle the "'
a:"'
:::J

equipment and sell the parts. Whatever route they take, a

J::
0..

Why do we begin with this example of the entrepreneurial process in action?

Because it calls attention to the importance of opportunities in entrepreneur-
ship. In fact, it is reasonable to say that opportunities are usually (although,
perhaps not always), the starting point of the entire process. In this chapter,
we'll consider this basic foundation of entrepreneurship in detail. To do so
effectively, we will proceed in the following way. First, we start with a
discussion of where new opportunities come from-in other words, what
factors lead to their existence? As we'll see, our basic answer is that
opportunities generally arise from changes in the external world-shifts in
technology, political and regulatory policies, social and demographie trends,
and so on. 2 These and other changes form the basis for the opportunities that
bright and perceptive entrepreneurs notice and then exploit. As we'll note in
more detail in Chapter 3, the characteristics of these people-for instance, their
human capital in the form of skills, experience, and training-play a key role
in their recognition of various opportunities and decisions to pursue them
actively. 3 But in an important sense, the opportunities themselves result from
various changes in the external world.
After that, we explain why opportunities are sometimes exploited through
the development of new products or services, and sometimes in other ways,
 CHAPTER 2 Entrepreneurial Opportunities: Their Origins, Forms, and Suitability for New Ventures 39

uch as th developmen t of new means of producti n, n w raw material , or

new ways of orga11izing business pr ess s. F r insta n e, th Internet, a n w
technology, did not lead ·a much ton ·w product b ing produced or ff red
for sai as it did ta a new way of organizing imp rtant busine proc sses-
e-tailing. The kind of products s ld did n t change, but th way in which they
were mad available to potential custom rs di.d. In contrast, tl1e invention f
the internai combusti n ngine, one a new technology, led ta the develop-
ntent of a new product, the automobile. However, it did not pr duce chang s
in the way busines s were orgmùzed: Dealer now s Id and r paired
automobiles (one mode of transportation) instead of another mode of
transportation-horse-drawn carriages!
In a third section, we focus on differences between industries that make
sorne of them more attractive than others for the founding of new businesses.
We will explain the characteristics of different industries that have been fou nd
to make them mor or les fertil nvironments for founding n w firm .
Finally, we will examine the question of why some opporttmitie are a tually
b tter for n w firms than for established one . Although e tabli h d fums
generally have major advantages over new venh.u-es, this ituation is reversed
und r special condi tions, and those conditions are worthy of our careful
attention because they ugg t when new companies can actually have an
advantage over large, existing ones.

Sources of Opportunities: The

Origins of New Ventures
learning
objective
1
In basic terms, entrepreneurial opporhtnity i a situation in which a persan can Define an entrepre-
exploit (i.e., develop) a n w bu iness idea that ha the potential to generate a neurial opportunity and
pmfit. As we mentioned earlier, an entrepreneu.rial opportunily can be ·xpJoited explain why such
tlu·ough the creation of a new product or service (s Figm 2.2 for an amusing opportunities exist.
xample), the opening of a new market, the developm:ent of a new way of
organizing, the use of a new material, or the inn·oduction of a new production
process. Where do these opportunities come from? What, in hart, is the basis
for their occu.rrence? A we'll see .in C 1apter 3, opportunities-and recognition
of them-in volve everal different factors and severa] aspects of human thought Figure 2.2
(creativity, key a pects f intelligence). Here, though, we emphasize the
Opporutnities Often Take the
f llowing ba ic fact: Opportunities generally m-ise from two major sour e ,--
Form of New Products or
th information people have that helps them to recognize (notic ) new bu ine s
Services
opp rtunitjes, , nd changes in the externat world that g nera te opportw1itie .
Th first view, initially proposed by Ki:rzner,4 emphasizes the fact U1<1t at The entrepreneur here identified
an intriguing opportunity. ln fact,
any given time, people vary in the kind and amotu1t information tl1 y have one cou/d argue that she created
available. For in tance, consider the foll wing sjtuati n. Two people both this opportunity by combining a 0
product with a service. .E

N
ïS
c:
>-
rJ)

'1

Source: Creators Syndicale, October 8, 2005 .

40 PART 1 Entrepreneurship: Who, What , Why?

know about a vacant store near a large college campus. One of these two
people, an older individual who graduated from college decades in the past,
has run several restaurants, so she has information suggesting that a new
pizza parlor could do well in that location. As a result, it is the kind of
opportunity she now pursues. The other persan, in contrast, is a recent
graduate who has knowledge about what students like to do on weekends.
This suggests to him the possibility of opening a different kind of business
there-perhaps a sports bar. As a result of the different kinds of information
they possess, these two entrepreneurs start different kinds of ventures,
depending on the opportunity they each recognize and decide to pursue.
In contrast, another view-and the one we will tend to emphasize here-
suggests that truly valuable entrepreneurial opportunities come from external
changes that either make it possible to do things not clone before or make it
possible to do something in a more valuable way; this view was first suggested
many years by Schumpeter. 5 For example, the invention of the made it
possible to develop a new product, the supermarket scanner, a deviee that
reads the bar codes on food. In the absence of the external change-the
invention of the laser-this opportunity would not have existed. Severa! kinds
of change generate opportunities for entrepreneurs to pursue: technological
change, political and regulatory change, and social and demographie change. 6
learning
objecti ve
2
Describe how technological,
'iéchlwhjicd
Systematic research suggests that in fact, technological change is the most impor-
political/regulatory, and social/
tant source of val ua ble entrepreneurial opportUlùties? Technological changes ar
demographie changes generate
a source of entrepreneurial opportunities because they make it possible
entrepreneurial opportunities.
for people to do things in new and more productive ways (see Figure 2.3).

Figure 2.3
Technological Change: A Key
Soure of Opporutnities
Technological change often makes
it possible to do new things or do
what was done before in a more
productive way. The invention of
the telephqne, the phonograph,
and computer chips made it
possible to do things that had not
been done before-or to do them "
more effective/y. For instance, until :J;"
high-speed and safe elevators were iii
developed, it was not practica/ to "'::>
Cf)

build skyscrapers. <QI

i8
..
(!)

<QI
 CHAPl'ER J. Entrepreneurial Opportunities: Their Origins, Forms, and Suitability for New Ventures 41

For example, un til development of high-speed, safe, and teliable eleva tors,·
constmcting sky crapers was neither practical nor desirable: Buildings had to be
relatively short. Once such elevators were available, opportunities relating to
skyscrapers could-and did-emerge.

AACt
Another important source of opportunity is political and regulatory change.
These change make it possible to develop business ideas to use resources
in new way that are eitlter moΠproductive, or that redistribute wealth
from one per on to another. For example, when telecommunications, intra-
state banking, trucking, and railroad indu tries were all deregulated (the
fed ral government stopped trying to regulate them closely), established
firms found it more difficult to deter the entry of new competitors, which
allowed entrepreneurs to i 1troduce more productive business ideas into
these industries. 8
Note, however, ti1at regulatory or political change does not necessarily
enhance productivity. Often, these changes generate entrepr neurial oppor-
tunities by sim ply allowing people who respond appropria tel y to th chru1ge
to gain at the expense of others. For xample, suppo e the town in which
you üved passed a law requiring all historie homes to be repaulted using
the srun type of paint that wa u · d 100 years aga. An alett entrepreneur
could profit from tlüs regu latory change by obtaining exclusive right to
ail paint formula from 100 years ago. This entrepreneur's profit wou ld
have nothing to do with productivity. lt would simply come from the higher
priee that people in the town Would have to pay for paint that met ilie
standard of the new law instead of the less expen ive pai.nt that they would
otherwise use.
Research shows that certain types of regulato.ry and politicaJ change are
particularly va1uable sources of entrepreneurial opportwlitie . First, as we
mentioned earlier, deregulation is a valuable ource of opportunity by making
it easier for people to enter industries with their new ideas. For instance,
deregu lation of the airline i.ndustry made .it possible for companies such as
Southwest Airünes-perhaps the m.ost uccessfullarge carrier in the United
States-ta compete on ilie basis of priee (see Figw-e 2.4).
Second, regulations that support particular type of busine activity
encow-age entrepreneurs to undertake tho e activities. For example, pro-
cartel polici s encouraged the formation of Massachusetts railr0ads in the
nineteenth century, while antitrust legislation in other tates discouraged the
formation of railioad companies. 10 Third, regulations provide a source of
opportunity by providing resources that eiti1er increase demand Jar partkular
activtties or• subsidize firms that undertake them. 11 For instance, in recent
years, the f deral government in the United States restricted the amotmt of
sulfur that electric-generating plants can relea e into the air. This restriction Figure 2.4
greatly increased tl\e d mand for low-sulfur coal and created opportunities for Political and Regulatory Changes
companies that can meet this need. are Often Sources of
Entrepreneurial Opportunities

Md When the Federal government in

the United States deregu/ated the
Social and demographie changes are al an important source of entrepre- airline industry, this created a
neurial opportunities. Tltink about the clotl1.es that you wear and the music valuab/e opportunity for air/ines
you play. They are probably different from the clothes and mu ic that your such as Southwest Air/ines, which
chose the strategy of competing on
parents favored when they were your age. Changes in people' preferences the basis of priee. The successful
make H possible for alert ntrepreneurs to provide products and service that deve/opment of this opportunity
meet changing tastes ru1d styles. made Southwest and similar
Suppos you discovered that next year, fashion among college students air/ines the most profitable ones in
would change significa11tly. Instead of jeans, tee shirts, and baseball caps, their industry in recent years.
 42 ; .AR1' ' Entrepreneurship: Who, What, Why7

31 g)

( l
1
J '2
f

Figure 2.5 Social and Demographie Changes are Sources of Entrepreneurial Opportunities
Entrepreneurs in the fashion business have often profited great/y from noticing-and responding ra-changes in taste and style. For
these entrepreneurs, such changes are on important source of business opportunity.

they would start dressing up for class because sudde11ly, this style would
be considered "cool." You could take advantage of this social change to
begin a company to manufacture and seU "dress up" clothing to students.
Does this scenario sound ddiculous? Maybe .it is. But, in fact, exactly tl1e
opposite shift occurred in the 1970s. In the 1950s and even 1960s, college
students dressed up for class. By 1970, however, the casual look that
dominates today had totally taken over. The result? Entrepreneurs who
started making jeans and teeshirts took advantage of this trend and reaped
large profits (see -Figure 2.5).
ln addition to social trends, demographie changes-changes in the size,
growth, distribution, and age of huroan populations-are also at\ important
source of entrepreneurial opportun.ities. The demographies of many countries
change all the time. Ove.r the past 20 years, the aging of the population in
many countries is generating opportunities for entrepreneurs to make
products that meet the special needs a1\d preferences of older individuals,
such as assisted living facilities. Populations also spread out from large ci.ties,
creating opportunities for entrepreneurs to build malis further from the center
of cities, and to provide products that meet emerging markets. For example, as
the Spanish-speaking population of the United States increases, opportunities
for supermarkcts that sell Latin American foods aye growing, as are Spanish
language radio stations.
Why are social and demographie changes a source of entrepreneurial
opportunity? Two reasons seem most important. First, social and demographie
changes alter demand for products and services. Because entrepreneurs
generate profits by se!Jing products and services U1at customers want, changes
in demand create opportunities to produce and seU different things. Second,
social and demographie chru\ges make it possible to generate solutions to
cus tomer needs that are more productive than those currently available. For
instance, as noted earlier, the numbei' of people above the age of 65 continues
to increase rapidly in many countries. Many of these people are retired and
t. have lots of spare lime; and in addition, many don' t like to drive their own
fi automobiles ovcr long d·istances. The result? Emergence of a tremendous
opportunity for entrepreneurs who can meet these needs by provid.ing
vacations that include guided tours by bus specifically designed for older
 CHAPTER 2 Entrepreneurial Opportunities: Their Origins, Forms, and Suitability for New Ventures 43

Figure 2.6
New Markets-and
Opporutnities-are Often Created
by Demographie Trends and
Changes
The number of older people is
increasing in many countries. Many
of these people do not like to drive
their own automobiles on long
road trips. Together, these
demographie trends create a
tremendous opportunity for
entrepreneurs who can provide
guided vacations by bus for such
:6
w customers. You now see these tour
'J buses near every vacation spot al/
over the world.
..:
ëiï
g

customers. This solution i much "neater'' for the special ne ds of these

customers than other existing alternatives-and many comparues specializing
in particular kind of tours of geographie area have been started to meet it
(see Figure 2.6).

Forms of Opportunity: Beyond New

Products and Services
When they think about opportunities, most people imagine that once they are
learning
objective
3
List the different forms
recognized, they are developed through new products or services. However, that entrepreneurial
opportunities can also be developed in other ways-in other words, they can opportunities can take
take other forms than new services and products. As we explained in Chapter and explain why some
1, entrepreneurs can actually deve1op business ideas to take advantage of forms are better for new
emerging opportunitie in five different way : (l) they can develop new firms than others.
products and servicesi (2) they can develop or tap new markets; (3) formuJate
new methods of production; (4) identify new raw materials; and (5) develop
new ways of organizing business processes. 12 Note that these modes of
development are independent of the source of the opportunity, which, as we
44 PART 1 Entrepreneurship: Who, What, Why?

noted earlier, can involve changes in technology, government policies and

regulations, demographie or social trends, or markets. So regardless of the
source of an opportunity, it can then be developed in several different ways.
Please keep this point in mind because it is an important and basic one about
opportunities and how they are developed.
New proS.ucts are, perhaps, the most common means through which
entrepreneurs develop opportunities, but they often the basis for new services,
too. For example, Expedia.com and other online travel services represent this
approach. They provide services that simply did not exist in the past.
Entrepreneurs also develop opportunities by tapping into new markets.
Consider a new chain of restaurants founded recently that serves lndian
cuisine in a casual atmosphere, called Café Spice. This chain was started by
Sushil Malhorta and Rajesh Bahardwaj, who realized that Indian cuisine has
grown increasingly popular in the United States. However, until recently, it
has been available mainly in regular sit-down restaurants that serve entire
meals. They came up with the idea of serving Indian cuisine in casual, low-cost
cafes, and have already enjoyed tremendous success opening such businesses
near college campuses.
In contrast, consider Amazon.com: ft provides an example of a business
idea (selling books without using physical bookstores) that one entrepreneur,
Jeff Bezos, developed tluough a new way of organizing business processes.
Amazon.Com was one of the first, but the idea it developed has now been
exploited by many other entrepreneurs in other markets. As an example of a
new raw material, consider a start-up venture named Cycletech, which
attempted to make used tires its raw material. The basic idea was to freeze the
tires to very law temperatures and then to separate the valuable materials
remaining in them-steel, nylon, rubber. The company did not succeed for
reasons we'll describe in Chapter 4, but it provides a clear example of
developing an opportunity based on new technology (the freezing process)
through the use of a new kind of raw material. Finally, biotechnology start-ups
often provide good examples of opportunities that involve the use of new
modes of production. Such comparues sometimes use bacteria to synthesize
substances that can be used in vaJuable drugs. Thus, they develop
opportunities that emerge from technological advances tlrrough new means
of production.
Even though opportunities can be developed in ail of these ways, the
most common route taken by entrepreneurs is that of introducing new
products or services. Tapping into totally new markets, developing new raw
materials, coming up with new ways of organizing or new methods of
production, are less commonY In fact, research findings clearly indicate
that entrepreneurs founding new firms usually do so through the intro-
duction of new products or services, while existing companies are more
likely to follow the other routes (e.g., new production processes, new raw
materials, etc). 14 .
The fact that most new ventures are started to develop opportunities
through new products or services does not mean that this is always the best
route, however. In fact, founding a new business in the most "typkal" way
may not be the most profitable. As we will see in more detail in Chapter 10,
success in founding new ventures requires that entrepreneurs develop a
business idea that can be readily defended against competition, which is
usually quick to develop if it does not already exist. Research findings indicate
that entering a new market is a particularly risky way to develop opportunities
because it is virtually impossible for entrepreneurs to defend this form of
development against competition. New products or services provided to a
new market are usually easy to duplicate, and unless they are protected in
sorne way (patents, trademarks, and other factors we'll discuss in Chapter 8),15
 CHAPTER 2 Entrepreneurial Opportunities: Their Origins, Forms, and Suitability for New Ventures 45

Table 2.1 Examples of Different Forms of Entrepreneurial O pportunities thal Result from Technological Change
This table illustrates the fact thot any given opportunity-in this case, one deriving from technologlcal change- con be developed in any
one of severo/ different ways: through development of a new product or service, tapping into a new market, a new method of
production, new raw materials, and sa on.

TECHNOLOGICAL CHANGE EXAMPLE OF A BUSINESS IDEA

(SOURCE OF THE FORM OF THE OPPORTUNITY IN RESPONSE TO THE
OPPORTUNITY) (HOW tT WAS DEVELOPED) OPPORTUNITY REASONING

Internai combustion engine New product or service Automobile The internai combustion engine is
used to power automobiles
Internet New way of organizing Online book sales
------
The Internet allows people to sell
products without retail outlets
Refrigeration New market Refrigerated ship
-------
The refrigerated ship allows ranchers
in one country to sell their meat in
another country
Computer New method of production Computer-aided design The computer allows designers to
rnake products without building
physical prototypes
Oil New raw material Producing gasoline Oil is refined into gasoline to power
vehicles
------------------- ------------------------------------------

they don't stay " new" or ''tmique" very long. In contrast, business ideas
involving new methods of production often provide better opportunities for
entrepreneurs because they can be kept secret and therefore are more difficult
to copy. Because entrepreneurs sell their new products to customers, ali of the
attributes of their n ew products are available for others to see. Competitor can
buy one, take it apa rt, and ee how Lt works. Then the competitor can copy the
product. h1 con trast, an entrepreneur does not h ave to show anyone else the
production process that he or she uses. Therefore, it takes much longer, is
much more d ifficult, and costs much more for competitors to imitate business
ideas that are developed through new production processes than ones that are
developed throu.gh products and services.16
Table 2.1 shows examples of the different ways in which opportunities
arising from technological change can be developed. Please read this table
carefully because doing so will clarify an important point: The source of
an oppor tun ity and the way in which it is d eveloped are rela tively
ind p eJlden t. (Now that we have exam ined various sources of oppor tunities
and ways in which they can be d eveloped, we'll p ause briefly to consider the
wide pread b lief that small compa nies often have a big ad va11tage over
large one . Titis issue is discussed in the Qualifying Common Sense section on
the next page.)
46 PART 1 Entrepreneurship: Who, What, Why?

k'now a6out
MJVJ -z- c() lnm tJ h 9eh ;,e
-anet Mat lllé lZe Do k'now
ll/é nin/ë ll/é

ua;g companies are plodding dino-
saurs, and new ventures con often
run circles around them."
Have you ever heard this idea? We think you
probably have because there is a widespread
beliet that large, existing companies are con-
strained by their own large size and entrenched
bureaucracies so that they simply cannat
respond quickly or weil to changing conditions.
This, it is further reasoned, often gives an
important edge to new ventures that are small
and can respond quickly and weil to shifting
trends or events. What do you think-is this
assumption correct? Recent examples in which,
for instance, giant U.S. automakers such as GM
and Ford stumbled badly seem to suggest that
this idea is accurate. These companies had put
most, if not ail of their new product "eggs" into
a single basket-producing ever·larger and more
fuel-guzzling SUVs and trucks. They were
caught totally off balance when oil priees
skyrocketed during 2005 and 2006 and con·
sumers suddenly woke up to discover that they
simply could not afford to fill the tanks of these
large, inefficient vehicles. The result was disas·
ter for the automakers and for anyone who held
their stock. Of course, this did not lead to the
founding of new ventures to produce smaller
and more fuel-efficient vehicles-entering this
particular industry would require many millions
or even billions of dollars. But the lesson in su ch
events seems clear: Large companies are often
constrained by their own large size and en-
trenched bureaucracies.
This does not mean, however, that large
companies can't respond to change or that new
ventures always have an edge in doing so. This
is an issue we will address in detail in the next
section of this chapter. Here, we simply want to
alert you to the general overall conclusion :
Y es, sometimes new ventures do have an
advantage-their small size allows them to move
quickly to develop products or services that are
really new. Moreover, because can be so
flexible, they often attract precisely the kind of
creative, innovative people they both want and
need-people who question everything and can,
ultimately, shake up even long-established
industries. lt's important to note, though, that
such instances are the exception rather than the
rule. Large existing companies have many
important advantages that weigh in their favor-
and which they often use to full advantage. They
have the financial resources, the established
reputations, the large customer bases, the
experienced salespeople, and the distribution
networks that new ventures can only dream of
developing. So overall, and contrary to what
common sense suggests, it is generally large
companies, not new, small ones, that hold the
competitive advantage. Y es, innovative entre-
preneurs can develop excellent opportunities
they have identified and can sometimes
accomplish this very rapidly. But a theme of the
remainder of this chapter will be that they can
only do so under special circumstances. So
please read on to find out what these conditions
are and when, in fact, new companies actually
can "run circles" around large ones.

learning
objective
4 Industries That Favor New Firms:
Explain why new firms are more
successful in sorne industries
than in others, and identify the
major types of industry differences
that influence the -relative success
of new firms.
Fertile Grounds for New Ventures
One of the most interesting findings to emerge from recent research on
entrepreneurship is that the extent to which new ventures are successful varies
dramatically across industries. For instance, if you take two entrepreneurs
with exactly the same skills and abilities and you place one in an industry
favorable to new firm formation and you place another in an industry
unfavorable to new firm formation, the probability that the new firm
will survive, the likelihood that the new firm will go public, the amount of
 C HAPTER :1. Entrepre neu ri al Opportunities : Their Orig ins , Forms, and Su itability for New Ventures 47

ales growth it will have, and the level of profits it will earn have been shown
to be a nmch as 10 times higher in the favorable industry than in the
unfavorable one. 17
011e of the most important things that a budding ntr ·preneur can 1 am,
therefore, is to identify industries that are favorable to new firms, where the
likelihood of success i high or at !east higher than j true in other indu tries. But
what is it about specifie industries that make them relative! y good or relative!y
bad .e nvironments for new ven tu res? Careful research on titis important question
indicates that f ur industry dimensions are most important: knowledge
conditions, demand conditions, industry lifecycles, and ind ustry struclure.
We' ll now d crib each of the e dimensions so thatyou can know whatindustry
characteristics to look .for as you think abou t starting your own company.

t-ftJw .5Y I?IJU)

Knowledge conditions is a term used by ec nomists to refer to the typ of

information that underUes the creation of products and services in an industry.
It includes su.ch tltings a the degree of complexity of the production proce s,
th level of new knowledge creation in the industry, th size of the inn va ting
enti.ties, and the degree of uncertainty. Tak , for exampl , a com.pari on of the
pharmaceutical indush·y and the r tail cl thing industry. The production of
drug is much more complex, requires murn gr ater investment to produce
new knowledge, requir s larger entities to undertake innovation, and is mucl1
more uncertain than the production of clothing.
So what does this comparison have to do w.ith starting new firms? You have
probably guessed already. Certain knowledge conditions make it easier to found
new ventures. In this respect, three dimensions of an indu try's kn ;wl dge
conditions are most important-and creat conditions fav rable ton w firm .
First, industries that have grea ter R&D intensity are more favorable to 11ew firms
than industries that have lesser R&D it1tensity.Hl R&D intensity is a measur of
how much res arcl1 and development ex pense firms incur for every dollar of sales.
Tltis mea ure captures how heavily fu·m.s invest in th creation of new knowledge.
Researchers hav· foun,d that R&D int nsive ind ustries have more new firm
becau e th invention of new technologies is a source of opportunity for new
busin ss ide, . The more R&D, the more new technology is invented. The more
new technology that is inven ted, the mor opportuniti al"i e for new busiuesses.
This relationship raises an i11triguiJ1g question: If c mpanies pend a lot of
money on research and d veJopment in an industry, why aren't they the ones
that capture and develop thes opportun ities? Pmt of the an wer involves what
is known as ·knowledge spillovers-instances in which information about new
tecltnology aJ1d how to develop it "leaks" to other people not in the company
that generated this knowledge. Forttmately for e:nh·epr neurs, the pillovers
are far from 1·are. For instance, sucl1 "leakage" occur in social ituations.
Jmagin that a young engineer from a large compru1y who g e out on a date
with a man who just graduated fron.1 San jose State University. After a few
beers, the young engineer, hoping to impress her date, tells h im about her
important work on developing a new generati n computer chip. U11known to
the yow1g engineer, her date ha b en thin king of tarting a business to produce
a new generaticm of computer chi p. However, his tmd rgraduat thesis sl1ow d
that he wa missing a key piece of the puzzle abou t how to doit. The ngineer
rtow urun.tentionaUy provides the missing piece. Over a ouple of beers, this
knowledge spil1ed over from the engit1eer to h r date, wh can then u e it to
tart a new business. Similar leakage al o occurs at parties, in socia l gatherings,
conventions, trade hows, and many th r ettings. P opl have a trong
tendency to talk about their work and what intere ts them, and this can ofte11
48 PA kT 1 Entrepreneurship: Who, What, Why?
Figure 2.7
New Knowledge: ls lt Made
Public or Guarded Closely?
Organizations such as universities
or research laboratories have a
clear goal regarding new know-
ledge: Put it into public domain as
quickly as possible. This goal makes
it relative/y easy to develop new
ventures in industries where most
new knowledge is provided by such
organizations. ln contrast, in
industries where most new
knowledge is provided by private
corporations, it is carefully
guarded and not made public. For
this reason it is often more diffrcu/t
to start new vent ures in such
industries.
provide valuable information to others who may not,
in fact, have been actively or intentionally seeking it.
Another aspect of knowledge conditions that
enhance new firrn formation is the locus of innovation.
This terrn refers to those who produce the technology
that is a source of opportunity. In sorne industries, like
automobile rnanufacturing, private sector firrns pro-
duce most of this knowledge, while in other industries,
"- such as pharrnaceuticals, public organizations, includ-
: ing universities and governrnent research labs, are the
source of rnuch new knowledge. Research findings
i'5 indicate that industries in which public sector organ-
g izations produce most of the new technology are ones
with a high rate of new venture forrnation. 19 The
©
reason seerns straightforward. In contrast to large
private cornpanies that often take great pains to
protect new knowledge gained by their employees, universities and research
labs have a very different mission. Their goal is to add to knowledge and put it
into the public domain so that society can benefit from it. So, for example, if
engineering professors and their students inventa new kind of computer chip,
they tend to publish their research. This legitirnate desire of people working in
the public sector to make new knowledge they acquire public makes it easier for
entrepreneurs to found new fums in industries where most of the new knowledge
cornes from public sector org<mizations such as universities (see Figure 2.7).
A third dimension of know ledge conditions that create a positive
envirm1me:nt for new firm creation is the nature of the innova tion process
itself. In sorne industries, such as automobile innovation and
new technology d evelopment require a large scale of operations and lots of
capital, leading most of U1e innovation to be done by large, established
companies, such as General Motors and Ford. In other industries, such as
computer software, innovation and technology development requires flexible
and nimble organizations, leading most of the hmovation to be undertaken by
new and small finns. Because new firms tend to start small, they do better at
coming up with new products and services in i.ndush·ies Ül which small firms
are the better innovators. Therefore, industries in which innovation demands
can be met by small organizations tend to have more new firm formation than
industries in which innovation demands larger organizations.Z0
D&nahd Ct>ndititJny: C&li:ain K:'ilutY
t>j' Î11MkdY 'FtWt>'v Î1ew 7/eniuJtey
Demand conditions is a terrn that researchers use to explain the attributes of
customer preferences for products and services in an industry. Customers can
express light demand or heavy demand for products. Demand can also be
growing or it can be shrinking. lt can be stable or it can be changing. It can be
homoge.nous or it can be heterogeneous.
Tinee attributes of d ema:nd conditions make an industry favorable for new
firm foundation: market size, market gTowth, and market segmentation.
Researchers have found that new firms perform better in larger markets than
in smaller ones because larger markets are more profitable for new firms.Z 1
Entrepreneurs face a fixed cost to found new firms. This fixed cost can be
a:mortized, or spread out, over more sales in a larger market than in a smaller
market. As a result, the expected returns to founding a firrn are greater in a
larger market than in a smallel· market.
New firms also perform better in more rapid ly growing markets thau in
less rapi.dly growing or sh rinking markets because. new firms can enter rapidly
grû\.ving markets to serve customers that established finns are unable to
 CHAPTER 2 Entrepreneurial Opportunities: Their Origins, Forms, and Suitability for New Ventures 49

serve. 22 Not only does this allow new firms to gain customers who
are relatively easy to persuade-they have excess demand
(customers want the product or service very much)-but it also
allows new firms to avoid trying to take customers away from
existing firms as a way to make sales. Instead, they are acquiring
customers the large comparues don't or can't serve.
Lastly, new firm formation is more common in markets that are
more heavily segmented. Industries differ in their degree of market
segmentation. For example, many more different types of cars are tar-
geted at different types of buyers than types of frozen corn
are targeted at different types of buyers. The reason is that people
have more varied preferences for automobiles than they do for frozen
corn. Sorne need----or simply want-cars that are sleek and "sexy,"
Figure 2.8
others want ones that give them lots of cargo room, and still others want highly
Market Segmentation Often, lt
fuel-efficient cars. Not so many different segments exist for frozen corn. A high
Favars Start-Up Ventures
degree of market segmentation makes it easier to start new ventures 23 because
niche markets-relatively small, specialized markets-favor orgaruzations that can When markets are highly
segmented, or involve many
exploit them even without high volumes of production. New firms are better than
different niches, they often pro vide
the average established firm at small-scale production. In addition, the exploi- good environments for new
tation of niches requires quick and agile firms that can take advantage of market ventures. New ventures can move
segments that other firms have left unsatisfied. New companies tend to be quick/y to fil/ sma/1 market niches.
quicker and more nimble than large, existing ones. For example, consider Javette, One example is }avette, a start-up
a new start-up company that produces coffee concentra te in single-serving pack- venture that produces sing/e-
ages; this company was started in 1999 by Candy Palmer-Steele (see Figure 2.8). serving packages of coffee
concentrate, perfect for business
When mixed with hot water, it produces excellent gourmet-style coffee, which is
travelers who miss their gourmet
just what many business travelers want to have in their hotel rooms or other coffee white on the road.
locations. It is a relatively small niche market, but one that was not being
exploited by existing, large companies, so Javette moved in quickly and is now
reaping considerable success: Sales doubled every year, and now the company
seems poised to really take off. Market segmentation also allows a new firm to
enter a market and obtain a foothold without going after the mainstream
customers of an established firm. As a result, new firms can enter segmented
markets without the level of retaliation that they face in entering unsegmented
markets where they must try to take customers away from established comparues.

!_tJe epy: f?ew 7/elztwley Ojœn

in 7h«n Î11ûiuJle Oney
Like people, industries are born, mature, age, and-in sorne cases-ultimately
die. Probably, you are aware of the birth of electronic commerce as an
industry. But you are probably less aware of death of the Pony Express unless
you watch a lot of late night Westerns on television. The birth, maturation, and
death of industries, what researchers call the industry life cycle, is important
to entrepreneurs because the life cycle has a powerful impact on the ability of
entrepreneurs to found successful new firms.
First, research shows that new firms do much better when industries are
young than when they are older. 24 As you may have learned in market courses,
the adoption of new products is normally distributed. A small number of people
adopt them as soon as they appear (these individuals are known as lead users),
a moderately large number (early adopters) adopt them somewhat later but still
ahead of most others. Most people, however, adopt products in the middle of
the curve-after the products have been available for sorne time. A relatively
small number of people are late adopters, and a smaller number adopt new
products only after most others are already using them. The form of this
function is a normal distribution (height is another factor that is distributed
normally), and this distribution yields an S-shaped curve of market growth-
one in which sales rise rapidly as more and more people adopt the new product
50 PA l Entrepreneurship: Who, What, Why?

Figure 2.9
New Firm Formation ls Easier in Sales rise rapidly Later, demand
Younger Industries Than in Older at first, because flattens out, a
many customers are less favorable
Ones because Market Growth ls
adopting the new situation for
Rapid, at Least lnitially product, creafing new ventures.
A normal distribution of adopters a favorable
generates an 5-shaped pattern of environment for
The number of
market gro wth, which makes it new ventures.
new customers
easier for new companies to enter rises rapidly to
young markets thon aider ones, Bell·shoped a peak and
where growth is slo wer. ;/' frequenc:y curve then declines.
Adoption of new
product

Source: Based on information in Rogers, E.1983. Diffusion of Innovations. New York: Free Press, p. 243 .

but then, ultimately, begin to decrease (see Figure 2.9). As a result, if the
adoption of most new products follows the normal curve, then demand for new
products will first acceierate and then deceierate. Because it is easier for new firms
to enter market during periods of rapid demand growth, this is one reason why
they do bett r in younger markets than in older one . Moreover, when industries
are new, no existing firms are available to meet changes in demand. Without
existing firms present with which they must compete, new firms do better than
when they have to compete with existing firms to serve customers.
Furthermore, firms get better at meeting the needs of customers through
experience. Because firms have to operate in an industry to gain experience,
new firms are at a disadvantage when compared to established firms. Early in
the !ife of an industry, this disadvantage î • smaU because even the oldest firms
have little experience. However, when the industry becomes mature, the older
firms' Ievel of experience makes it much harder for new firms to perform weiL
Second, when industries mature, they tend to converge on a dominant
design. A dominant design is a common approach or standard used to make a
product. For exampie, the internai combustion engine is a dominant design.
Early in the life of the auto industry, many firms used engines based on steam and
eiectrical power rather than the internai combustion engine. None of the major
auto companies use engines based on steam or eiectricai power anymore.
The concept of a dominant design is important to entrepreneurship because
new firms tend to do much better before a dominant design emerges in an industry
than after it has been established. Before a dominant design is established, an
entrepreneur can adopt any design that she or he wants for the new venture's
product or service. However, the establishment of a dominant design limits the
approaches that entrepreneurs can take to those designs that fit the standards that
established firms are aiready using. Not only does the new firm have to use the
dominant design for its products, the estabiished firms possess a big advantage:
They already have grea ter experience with this design. So once a dominant design
emerges, competition in an industry changes. Instead of competing to see who has
the design that fits the preferences of customers the best, firms compete on
who can make a standard design most efficiently. Because established firms
are larger and have more experience, they can produce more efficient! y, and so
have distinct advantages once a dominant design has emerged in an industry.
Take VHS tapes for example. Once the video recording industry
converged on the VHS standard as the dominant design, it became almost
impossible for new companies to introduce other tape formats. The major
Japanese companies that produced VHS tapes, such as Matsushita, were able
to produce the tapes more efficiently than anyone else, and were able to gain a
major competitive advantage.
 CHAPTER 2 Entrepreneurial Opportunities: Their Origins, Forms, and Suitability for New Ventures 51

CtJtnpditUJn and
tJrf
Industries also differ in their structure, making sorne of them more hospitable to
new ventures than others. Researchers have identified four aspects of the
structure of an industry that make it easier for a person to found a successful
new firm in it. First, sorne industries are more capital intensive than others.
Capital intensity refers to the degree to which the production process in an
industry relies on capital rather than on labor. New firms perform relatively
poorly in capital-intensive industries?5 When new ventures are initially created,
entrepreneurs must spend capital to obtain equipment, establish production
facilities, set up distribution, and otherwise get organized. This expenditure of
capital occurs before the new business can sell its products or services and so
generate revenue. Because new firms do not generate cash from their existing
operations, they must obtain this capital from investors. For reasons we will
describe in more detail in Chapter 6, investors charge entrepreneurs more for
capital than it costs for them to use internally generated capital. For now, we'll
sim ply note that entrepreneurs know much more about their business ideas and
venture opportunities than the investors who back them, and so the investors
demand a risk premium to compensate for those entrepreneurs who might try
to take advantage of their (the investors') relative ignorance. Because existing
firms can use capital from their current operations to finance new business
ideas, this puts new firms at a disadvantage. This disadvantage grows as the
capital intensity of the business increases.
Second, new firms perform worse in advertising-intensive industries, such
as consumer products, than they do in industries that do not rely heavily on
advertising, like industrial chemicals. Brand reputations are developed over
time through repeated advertising efforts. As a result, it takes considerable
time for new firms to develop the same level of brand name recognition as
established firms. Moreover, advertising is subject to economies of scale.
Economies of scale is a term that economists use to explain that the cost of each
unit of a product goes clown as the volume of production increases. Scale
economies exist any time the cost to produce the first unit of something is
greater than the cost to produce additional units. Because the cost of
developing a television or radio advertisement is the same regardless of the
number of units of the product that you sell, the cost per unit of advertising is
significantly lower, the more units of your product that you produce and sell.
Therefore, the small size of new ventures makes it hard for them to keep their
per-unit advertising costs as low as those facing established firms .26
Tli.ird, n w .firms perform worse in concentrated industries than they do in
fragmented industries. 27Concentration refers to how much market share lies
in the ha'nds of the largest firms in the industry. When industries are
concentrated, new firms have to challenge the customer base of established
firms with the power and resources to drive them out of business. In contrast,
when industries are fragmented, new firms can enter by challenging small and
weak established firms whose customers are more vulnerable.
Fourth, new firms perform better in industries that are composed of
companies that are relatively small in average size. 28 Most new venl1.tTes are
relatively small because starting small allows entrepreneurs to minimize the
cost and risk of establishing their new ventures. Because entrepreneurs are
often wrong about their business opportunities, they would like to minimize
the cost of being wrong, which they accomplish by starting on a small scale
and testing whether their business ideas work.
In industries composed mostly of small firms, starting small does not put a
new venture at much of a disadvantage relative to established competitors.
However, in industries composed mostly of large firms, starting small greatly
 52 T l Entrepreneurship: Who, What, Why?

Figure 2.10
Aspects of lndustry Structure that Howcopital
Influence New Venture Success intensive is
the industry?
As shown here, severa/ aspects of
industry structure make a
particu/ar industry one in which it
is relative/y easy or relative/y How advertising·
difficult to start new ventures. intense is the
industry?

How
concentrated is
the industry?

What is the
average size of
companies in the
industry?

disadvantages new firms whose established and much larger competitors can
purchase in greater volume, produce at a lower average manufacturing cost,
and spread their costs of advertising and distribution over more units.
Therefore, new firms tend to do more poorly in industries made up of
relatively large firms. Figure 2.10 summarizes the aspects of industry structure
that have beeu found to strongly affect the success of new ventures. (What
happens when entrepreneurs ignore these factors? For an example, please see
the Dan.Q'er! Pitfall Ahaad! section.)

DANGER! PITFALL AHEAD!

Enter Mature Industries at Your Own
Peril
Starting a new venture is always a risky propo·
sition; no matter how good the opportunity
' entrepreneurs have identified, many obstacles
stand in the way of reaching success. Given this
fact, it is not really surprising that most new
ventures fail within a few years of being
launched. Sorne factors that make life difficult for
new ventures are beyond their control-for
instance, the reactions of competitors, which can
often be both quick and devastating, or unfore·
seen changes and events in markets or tech-
nology. But factors are, if not controllable, at
!east visible to entrepreneurs if they take the
trouble to look for them.
For instance, it seems clear that entrepre·
neurs considering the launch of a new business
venture should carefully consider the kind of
industry they are planning to enter. ls it
concentrated, with just a few big "players"?
Does it require large amount of capital to enter?
Are the markets growing rapidly or are they
relatively stagnant? And is the industry young or
mature? Failure to pay careful attention to these
issues can be deadly for entrepreneurs. Here's
one clear example.
Back in the late 1 990s, a scientist in the
United Kingdom came up with what seemed to
be a wonderful new idea: eyeglasses with
adjustable lenses. The lenses, which the scien·
tist developed, could be adjusted to match the
task owners were performing-reading, watching
television, viewing sports events, or whatever.
The lenses were also light and damage-resistant,
and could be produced and sold for much lower
priees than regular eyeglasses. The scientist
joined with severa! other people to form a new
company-Adaptive Eyecare Ltd.-and raised
millions of dollars in capital from investors who
also thought that it was a great idea.
Within a few years, however, the company
failed and vanished from the scene. Why?
 Entrepreneurial Opportunities: Their Origins, Forms, and Suitability for New Ventures
,____....;;,.DANGERI, PITFALL AHEAD!
Several factors played a role, but several of
them related to the kind of industry this new
venture was trying to enter. First, a clear
dominant design was already established-
eyeglasses made in the traditional way. More-
over, although eyeglasses were sold by many
different suppliers, a relatively small number of
large optical companies controlled a major
share of the market. These companies earned
their profits by making and selling eyeglasses,
so they were not about to welcome the new
product, which might weil reduce the volume of
their sales, into their retail stores. Third, eyewear
was definitely a relatively mature industry. Eye-
glasses had been made and sold for centuries,
and several professions (opticians, optomet-
rists} were closely connected to it. These
individuals and large optical companies were
set up to produce and deliver eyeglasses in a
particular way; the new lenses would not fit
readily or weil into their existing business
models and would require them to retool in
significant ways. (As we note in a later discus-
sion, this kind of change is termed competence
destroying; it puts existing companies at a
disadvantage because they have to abandon
53
(Continued)
processes they used before and know weil, and
replace them with new ones with which they are
unfamiliar.}
ln short, Adaptive Eyecare broke several
rules entrepreneurs should consider: lt was
trying to enter a mature industry with a clearly
established dominant design, and one that was
relatively concentrated and not growing rapidly.
ln tact, the development of laser surgery to
correct nearsightedness and other vision prob-
lems virtually assured that the market for
eyeglasses would shrink, or at best remain
constant, rather than grow. Perhaps if the
founders of Adaptive Eyecare had paid careful
attention to these factors, they would not have
chosen to move ahead-they would have real-
ized that in this particular case, industry con-
ditions were such that the odds were heavily
stacked against them.
The moral for entrepreneurs is clear: Before
launching a new venture, consider industry
conditions carefully. And only proceed if these
conditions are ones that make it at least feasible
for a new venture to enter the market and
succeed.
54 PART 1 Entrepreneurship: Who, What, Why?

Opportunities That Favor

New Firms
One of the difficulties that people face in founding successful new businesses
is that they confront strong competition. The individuals who run established
firms are ofte11 talented, experienced, and highly rnotivated: They, too, want to
profit from the exploitation of opporttmities. So, not only does an entrepreneur
have to identify and exploit a valuable opportunity to s tart a successful new
company; the entrepreneur also has to do so d espite strong competition from
established comparues. How do new ventures sometimes manage to overcome
these odds, which are heaviJy against them? Research findings indicate that
entrepreneurs and the new ventures they start sometimes are able to succeed
in the face of these obstacles because sorne opportunities ·are es pecially
favorable for new businesses. By focusing on opportunities in tl}is category, an
entrepreneur can increase his or her likelihood of success. In this discussion,
we will carefully consider both kinds of opportunities: ones that favor

learning
objective
5 established firms and ones that favor new firms.

Î11tJst Oppt;'ttttlviiey FavtJJp FiMnY

Most of the time, established companies do a better job than a new company at
Explain why established firms
exploiting an opportunity for severa! important reasons, ail of which have to
are usually better than new
do with the foilowing basic fact: When companies have been in business for a
firms at exploiting entrepre·
while they develop severa! advantages over new competitors. First, they move
neurial opportunities.
up what is known as the learning curve. This simply means that their
performance improves as a fttnction of how much experience they have had
with the product or service they provide. This performance improvement
occurs both for companies and for individuals. For example, think about
learning to ride a bicycle. Probably, at first, you feil off repeatedly. Gradually,
though, your performance improved and saon, you were able to do much
better-and fell off only rarely. In other words, the more practice you had, the
better your performance. The same basic function applies to companies.
Initiaily, they find it difficult to manufacture products efficiently because they
have not worked out the ''bugs" in their production processes. Moreover, they
haven't yet figured out the best way to sell products to customers. However,
just like you and your bicycle, as companies produce more of sornething, they
get better at doing it (see Figure 2.11). Because new companies have not yet
moved up along the learning curve, they are generally worse at manufacturing
and marketing products than established companies: They just don't have the
experience (practice) to be as good.
Second, business depends a great deal on reputation. Research findings
indicate that people are much more likely to buy products from suppliers they
know and trust 29 than from new and unfamiliar ones. Experience in
interacting with a particular supplier gives a customer confidence in the
products and services that this suppler provides. Think about going out to
dinner. If you've eaten at a restaurant before, you know whether you like it.
Although you might have a better meal at a new restaurant, you don't know
whether the meal will be any good. The reputation that the established
restaurant has developed with you (and other customers, too) keeps you
coming back and makes it harder for the new restaurant to get you in the door.
This advantage is also important for established companies. In addition, and
closely related to these points, large existing companies also have established
customers, marketing departments, and experienced salespeople--all these
make it truly difficult for a new company to capture their markets.
Third, if businesses are successful, they develop positive cash flow. That
is, they bring in more cash than they spend to produce and distribute their
 CHAPTER 2 Entrepreneurial Opportunities: Their Origins, Forms, and Suitability for New Ventures ss

Figure 2.11

---·
Experienced, existing companies The Learning Curve: A Big
are far along the learning curve,

--- --- ---

Advantage for Existing
so they are more efficient.
Companies
........
............ Because new companies have more
,. ... ... . . experience at manufacturing
; products than new companies,
;
; they are further along the /earning
; curve and can manufacture
c /
Q)
ï::ï / products with which they have
::E 1 past experience much more
w
1 efficient/y than new companies.
New ventures are further bock
1 on the learning curve, so
1
1 they are less efficient.
1
1
1

Experience in Manufacturing a Product

products and services. This cash flow is useful for developing new products
and services. If an established business has positive cash flow, it can use that
cash to invest in producing new products and services that meet the needs of
customers. For example, Dell invested the cash it earned from selling
computers into making and selling printers. Because new companies haven't
yet sold any products to customers, they do not have positive cash flow, and
have to barrow money or issue stock to raise capital. These options cost more
than using internai cash, and so puts new companies at a disadvantage
relative to established companies where producing new products is
concerned.
Fourth, many established businesses enjoy the advantage of economies
of scale. For example, think about the cost of producing a computer
game. Writing the software code for the first copy of the game is quite
expensive. A computer programmer will have to spend several hundred
hours writing this code. But once the game has been written, a person can burn
CDs of the game for only pennies. Economies of scale benefit established
companies over new companies because the established companies are
already producing products and services. Soif they are buying raw materials
or advertising or doing anything else that requires economies of scale, the
established company faces lower costs than the new company because it
produces more units.
Fifth, new companies often find it difficult to compete with established
companies because they Jack complementary assets. Complementary assets
are things that are used along with the entrepreneur's new product to make or
distribute that product. For example, suppose you have developed a new type
of fuel that will deliver more than 200 miles per gallon in existing automobiles
and is also less polluting than existing fuels such as gasoline. Could you bring
it to market and sell it? Perhaps. But consider this: would the existing oil
companies allow you to sell your new fuel at their service stations? And would
they allow you to make it in their existing oil refineries or other plants?
Probably not! They control the complementary assets-the ones needed to
produce huge quantities of this fuel and to actually deliver it to consumers.
Unless you could make sorne arrangement with them, you would not be able
to deliver your new fuel to drivers. Your competitors-existing, large
companies-control the complementary assets needed to do so and would
be unlikely to give you access to these assets.
56 PART 1 Entrepreneurship: Who, What, Why?

OpptJ'Iiuhitiey 'ï1Mt 71w Fi'YnY

learning
objective
6
ldentify the types of opportu·
nities that new firms are better
at exploiting, and explain why
new firms have an advantage in
exploiting these kinds of
opportunities.
Admittedly, all these factors sound discouraging: The "business deck" is
indeed stacked strongly against new ventures. So how, in the face of these
major disadvantages, do they sometimes succeed? The answer involves the
fact that entrepreneurs have several important "aces" up their sleeve. In other
words, they actually have several advantages over existing companies. Let's
now take a doser look at these advantages.
One major advantage new companies have is that they are better at
exploiting competence-destroying change. Earlier in the chapter, we noted
that one of the major sources of opportunity is technological change.
Technological change makes it possible to introduce a new product or service,
open up a new market, use a new raw material, develop a new way of
organizing, or introduce a new production process. Such change, however, can
be competence-cnhancing or competence-destroying.
technological change is a change that makes people or companies better at
what they are already doing; in contrast, competence-destroying technological
change is a change U1at makes people or companies worse at what they are
doing. 30
Most technological change is competence-enhancing. For instance,
companies that have been exploiting a technology for a while are better at
doing things that make use of further advances in this technology because of
the learning cmve that we described earlier: They are experienced with it, and
so can quickly take advantage of further advances. As long as the effort to
produce a new product, develop a new production process, exploit a new
market, use a new raw material, or organize in a new way takes advaJltage of
something that bad been learned before, the established fim1, which has
moved further up along the learning curve, hasan advantage. But sometimes,
change is competence-destroying. In those instances, having done something
before does11't make you any better at exploiting a business idea than someone
who hasn't clone that thing before-in fact, it makes you worse. Why? Because
having done someth.ing in on e way for quite a while, individuaJs or companies
find it difficult to do things in a new way-more difficuJt than jndividuals or
companies with no prior experience, and who, in a sense, haven't fallen into
what might be termed "the ruts of habit."
For example, when the Internet was introduced, experience with bricks-
and-mortar retailing dich1't help established clothing companies as e-tailers. In
fact, it made the established compa:nies worse. Their managers kept trying to
use the experience that they had gained from retail stores in their online sites
without realizing that online shoppers cannat try on or touch clothes in the
same way as shoppers in a retail store. In this case, the managers' previous
experience got in the way of selling clothing online in a new way-a way that
new companies with no experience in running actual stores were quickly able
to adopt. In this sense, the Internet was a competence-desb·oying teclmol.ogical
change.
The disadvautages of technological changes such as the hlternet go well
beyond simply underm:i.ning the advantages ex.isting companies gain from
the leanung curve. In addition, established compmues face severaJ other dis-
advantages in exploiting competence-destroying changes. First, to invest u1 a
competence-destroying teclmological change, an existing company has to
cannibalize its existing business. Cannibali zation occw.·s whenever a compru1y
launches a new product or service that replaces its existi:ng products or services.
For example, Lmlike Ama20l1.com, book sales on the Web by Barnes & Noble
camubalized its existing busu1ess, wl:ùcl1 was based on actua l bookstores. When
it introduced barnesandnoble.com, Barnes & Noble found itself in the situation
of serving many customers who would have bought books in its stores. So it
was serving its previous customers, but at an additional cost of setting up the
 CHAPTER 2 Entrepreneurial Opportunities: Their Origins, Forms, and Suitability for New Ventures 57

online business. In such situations, new companies have an advantage over

existing companies because the existing companies must make investments that
don't pay off in new customers; rather, the inveslm.ents merely allow them to
erve th ir existing customers in a new way? 1 The am thing is true for many
large r tajJers that ilwested heavily to develop Web-based sales-JCPenney,
Sears, and dozens of others (see Figure 2.12).
Moreover, consider the fact that companies that have existed for years or
decades generally develop routines for doing business efficiently. These
routines allow them to do things without having to evaluate whether those
activities are worthwhile every time they do them. For example, existing
companies might have procedures for manufacturing a CD player by means of
a specifie kind of technology. Even though these production routines are
useful for manufacturing the CD player efficiently, they may obstruct efforts to
explore new technologies, such as those behind MP3 players. The result? New
companies often have an advantage in doing things that are really new, such
as investigating the MP3 technology, because they are not constrained by
existing routines that direct them into doing something else. In fact, Figure 2.12
entrepreneurs may be better able to exploit new information about changing Technological Change ls
markets and other factors than individuals who work for large, established Sometimes a Major Advantage for
firms, and this, tao, can give them an important edge. 32 New Companies
Established companies also seek to satisfy their existing customers. As you When e-tailing on the Internet
perhaps learned in marketing courses, satisfying customers is important if a took off in terms of volume,
company is going to sell its products, but keeping customers happy has a retailers such as }CPenney, Sears,
downside. When companies develop new products, they often ask their and Barnes & Noble, who
customers what they think of those products. Much of the time, customers previous/y sold products in actual
reject new products either because those products aren't useful to them, stores, had to spend large amounts
of capital to establish effective
because they simply cannat envision changing to something new, or because
Web sites. This move didn't bring
changing requires effort. Because established companies run the risk of losing them many new customers,
their existing customers by pursuing products that these people do not want, however. lnstead, they were simply
they ofte11 avoid the new products. After all, go to the trouble of making canniba/izing their existing
something their existing customers don't want? 3 Here's one example: When business. ln contrast, new
IBM developed the laser, its lawyers weren't sure that the company should companies such as Amazon.com
patent it because IBM's customers couldn't find any use for the technology. obtained on/y new customers from
the Internet. Thus, this
But as we now know, a huge market can be found for lasers in everything from
techno/ogica/ change, /ike many
supermarket scanners to making CDs. The lesson in this discussion is clear: others, gave new ventures an
New companies are often better than established companies at developing important advantage over existing
new products or services because established companies are constrained by companies.
their existing customers. If their existing customers tell them that they don't
like a new product, the company may listen and decide not to develop it.
Because new companies have no existing customers, they often feel no such
constraints against developing new products.
New comparues are also more successful when they develop products and
services that are discrete. An example of a discrete product is a new drug. Any
company that produces a drug can sell that drug without combining it with
other products or deviees. In contrast, a windshield wiper is not discrete-it is
part of a system. Separated from the rest of a car, bus, or other vehicle, a
windshield wiper is pretty useless. In essence, discrete products are better for
new companies because these products are "stand-alone" items and can be
developed without the cast and difficulty of trying to replicate existing
companies' entire systems-for instance, a new company can make and sell a
drug without combining it with other products. 34
New companies are also more successful when their business ideas are
embedded in human capital rather than physical capital. Human capital is
value invested in people, while physical capital refers to things such as
machines and equipment. New businesses do better with ideas that are
founded in human capital rather than physical capital for several reasons.
First, human beings can move relatively easily from an existing organization to
58 PART 1 Entrepreneurship: Who , What, Why?
Table 2.2 Sorne Opportunities Are Setter for New Ventures Than Others
As shown here, sorne opportunities favor established firms white others favor new ventures.
DIMENSION OF THE OPPORTUNITY
Relies heavily on reputation
Has a strong learning curve
--------Established firms
Requires a lot of capital
Demands economies of scale
Requires complementary assets
in marketing and distribution
- - ---
Relies on an incrementai
product improvement
Employs a competence-destroying
innovation
Does not satisfy the needs of
existing firms' mainstream
customers
ls based on a discrete
innovation
Based on human capital
a new one to pursue an entrepreneurial opportunity. For example, if you have
an idea for a new product or service while working at a full-time job-an idea
that is not related to your job in any way-you can leave and start a company
to develop this idea (But be careful: if you have signed a noncompete
agreement this may be illegal; see Chapter 8). Alternatively, suppose that
someone you meet has an idea you think is simply great; it is her idea, but
since she can take it with her, you might try to persuade her to start a company
with you so that you can bath benefit from this idea. Consistent with this
reasoning, recent findings indicate that new ventures that focus on human
capital development strategies-recruiting knowledgeable employees, training
ex.isting ones, developing diverse teams for work on various projects-are
esp ecially likely to d evelop truly new and path-breaking new products.35
In contrast, if business ideas are embedded in physical capital, they can't
be moved as readily. For instance, expensive and highly speciillized equip-
ment required to make a product or offer sorne service meé}ns that only
companies that possess or can afford such equipment can develop the product
or service. Because few new companies have large resources at their disposai,
existing companies have an advantage in this respect.
New companies often benefit from other factors that might be described as
"intangible" in nature, but are still very important: the enthusiasm and
persuasiveness of their founders. People who work for large, existing
companies often feel strong commitment to these companies, but this loyalty
generally pales in comparison with the commitment entrepreneurs feel for
their own ideas. 36 When they translate this enthusiasm into effective
communication, they can gain an important advantage over large existing
companies. Necessity, it is often said, is the foundation for eloquence, and
WHO IT FAVORS REASONS WHY EXAMPLE
Established firms People are more likely to buy from those whom Restaurant; Retail
they know and trust stores
Established firms Established firms are further up the learning Automobiles
curve and are better at producing and
distributing products
Established firms have existing cash flow that Jet aircraft
they can use to produce a new product or
service
Established firms The average cost of producing a product or Computer chip plant
service goes down with the volume produced
when economies of scala exist
- ------
Established firms The ability to meat customer needs often Television sets
requires access to retail distribution
Established firms The established firm can add the incrementai DVD player
improvement to its products more easily and
cheaply than the riew firm can imitate their
product or service ·
----- --- -
New ventures Established company experience, assets, and Traditional travel
routines get in the way of innovation agents
New ventures Established firms focus on serving their Computer disk drives
mainstream customers and will not pursue
products or services that do not meet the
needs· of those customers
New ventures New firms can exploit discrete innovations Drugs
without replicating the entire system belonging
to established firms
New ventures Anyone who has the knowledge can produce a Food recipes
product or service that meets customer needs
 Cr.f • .,. l: Entrepreneurial Opportunities: Their Origins, Forms, and Suitability for New Ventures 59

since entrepreneurs need customers very badly-much more than existing

companies-they can, and often do, translate their own commitment and
passion into important advantages for their new ventures.
By now, we hope, the main pointis clear: Even though most opportunities
favor existing companies, which have greater resources, established reputa-
tions, and many other advantages, sorne opportunities do actually favor new
ventures. Entrepreneurs should consider this fact carefully before proceeding,
because in essence, it only makes sense to pursue opportunities that offer new
ventures if not a totally level playing field, at least one that is not tilted heavily
in favor of large, existing companies. Table 2.2 summarizes basic dimensions
of opportunities and indicates which kinds favor existing companies and
which kinds favor new ventures.

An entrepreneurial opportunity is a situa- Political and regulatory changes are

tion in which a person can exploit a new
business idea that has the potential to
generate a profit.
Entrepreneurial opportunities exist
because people differ in the information
they possess.
sources of opportunity because they
make it possible to develop business
ideas to use resources in new ways that
are either more productive or that redis-
tribute wealth from one person to
another.

Entrepreneurial opportunities also exist Social and demographie changes are

because of external sources of change,
particularly technological change, regula-
tory and political change, and social and
demographie change.
Technological changes are important
sources of entrepreneurial opportunity
because they make it possible for people
to do things in new and more productive
ways.
sources of opportunity because they
alter demand for products and services,
as weil as make it possible to generate
solutions to customer needs that are
more productive than those currently
available.
Entrepreneurial opportunities do not only
take the form of new products and
services. They can also take the form of
60 PART 1 Entrepreneurship: Who, What, Why?
new methods of production, new raw materials, new
ways of organizing, and new markets.
Entrepreneurs' business ideas often involve the
introduction of new products and services or entry
into new markets.
The most common form of opportunity exploitation by
entrepreneurs is not necessarily the best. Research
findings indicate that new businesses tend to do
worse at entering new markets and introducing new
products and services than at developing new
production processes.
New firms perform better in R&D-intensive industries
because the invention of new technologies is a
source of opportunity for new business ideas.
Industries in which public sector organizations are
the locus of innovation have more new firm formation
because public sector organizations do not try as
hard as private sector firms to minimize knowledge
spillovers.
New firms perform better in industries in which most
of the innovation is provided by small firms because
innovation in these industries requires agile and
flexible organizations, and new firms are agile and
flexible.
New firms perform better in larger markets than in
smaller ones and in rapidly growing markets than
ones that are growing slowly.
Market segmentation enhances new firm formation
because niche markets require organizations that can
exploit opportunities on a smaller scale and because
market segmentation allows a new firm to enter a
market and obtain a foothold without going after the
customers of an established firm.
Young industries are more supportive of new firms
because demand grows more rapidly in young
industries than in mature ones and because no
existing firms are available to meet demand in young
industries.
Development of a dominant design in an industry
works against new ventures because they have to
t:jto yya't-!f
Amortized: A method of distributing the cost of an
investment over the number of units produced or
sold.
Cannibalize: An effort to produce and sell a product or
service that replaces a product or service that one
already produces and sells.
Capital Intensive: The degree to which the production
process in a firm or industry relies on capital rather
than on labor.
use this design, and it is one with which established
companies have greater experience.
Industries that are capital-intensive, advertising-
intensive, and concentrated are more hostile to new
firms because they lack the resources to compete
and must try to win customers from large established
firms.
Established firms are better than new firms at
exploiting most opportunities. Established firms
have the advantage of the learning curve, which
improves their ability to introduce a new product or
service, tap a new market, use a new material, take
advantage of a new production process, or organize
in a new way.
Established firms have reputations, which encourage
customers and suppliers to do business with them.
Established firms have cash flow from existing
operations, which they can invest in the exploitation
of new opportunities at a lower cost than new firms
can tap external capital.
Established firms have access to complementary
assets in manufacturing, marketing, and distribution,
which are necessary to exploit opportunities.
To found successful new firms, entrepreneurs must
exploit opportunities th at favor new firms. Competence-
destroying technology favars new firms because
competence-destroying change undermines the
capabilities of existing firms and forces established
firms to cannibalize their existing assets.
Opportunities that are discrete are good for new
firms because entrepreneurs can exploit them with-
out having to replicate established firms' entire
system of assets.
Opportunities embedded in human capital offer
advantages to new firms, because entrepreneurs
can leave their employers to found firms that exploit
the knowledge they possess and because such
opportunities permit them to translate their enthusi-
asm and commitment into tangible outcomes such as
increasing sales.
Cash Flow: The internally generated funds available to
a firm after costs and depreciation are subtracted
from revenues.
Competence-Destroying: A form of change that under-
mines the skills and capabilities of people who are
already doing something. It is contrasted with
competence-enhancing change, which enhances the
skills and capabilities of people who are already
doing something.
 CHAPTER 2 Entrepreneurial Opportunities: Their Origins, Forms, and Suitability for New Ventures
Complementary Assets: Assets that must be used along
with an innovation to provide a new product or
service to customers, typically including manufac-
turing equipment as well as marketing and distri-
bution facilities.
Concentration: The proportion of market share that
lies in the hands of the largest firms in an industry.
This concept is commonly measured by the four-
firm concentration ratio, a government measure of
the market share that lies in the hands of the four
largest firms in an industry.
Discrete: A characteristic of a new product or service
that makes it independent of a system of other
assets necessary to use the product or service.
Dominant Design: A common approach or standard to
making a product on which firms in an industry
have converged.
Economies of Scale: A reduction in the cost of each unit
produced as the volume of production increases.
Entrepreneurial Opportunity: A situation in which a per-
san can exploit a new business idea that has the
potential to generate a profit.
1. Suppose you discovered a cleaner way of burning
coal for fuel. Would that discovery be an
entrepreneurial opportunity? What about a new
kind of candy that did not cause people to gain
weight or experience tooth decay?
2. What do you think will be the major sources
of opportunities over the next ten years? Why will
the sources of these opportunities be primarily in
existing industries, or not?
3. Think of five opportunities. What forms do they
take? Are sorne of these forms better for entre-
preneurs from the point of view of founding new
ventures?
The Hunt for Opportunities:
Building Your Skills
We defined an opportunity as the potential to create
something new and desirable (new products or services,
new markets, new production processes, new raw
materials, new ways of organizing existing technologies,
etc.) that emerges from a complex pattern of changing
conditions. You'll need to identify an entrepreneurial
opportunity to start your business. We believe that you
can use sorne of the things that we discussed in this
chapter to identify an entrepreneurial opportunity. To
do so, please follow the steps described here.
61
Hu man Capital: Investment or value in human resources
rather than physical assets.
lndustry Life Cycle: Refers to the birth, maturation, and
death of industries.
Knowledge Spillovers: The accidentai transfer of infor-
mation about how to create new products, produc-
tion processes, ways of marketing, or ways of
organizing, from one firm to another.
Learning Curve: A relationship that measures the per-
unit performance at production as a function of the
cumulative number of units produced.
Locus of Innovation: The location, both within the value
chain and between the public and private sector, in
which efforts to apply new knowledge to the crea-
tion of new products, production processes, and
ways of organizing, occurs.
R&D lntensity: The proportion of a firm's sales that are
devoted to creating new scientific knowledge and
applying that knowledge to the creation of new
products and production processes.
4. Pick three industries you know weil. What
dimensions of these industries make them favor-
able or unfavorable to new venture formation?
5. Go back to the five opportunities you thought of
in response to question 3. W ould established
firms have an advantage over new ones in
exploiting these opportunities? Why? Why not?
6. Describe an opportunity that, in your view, would
be an excellent one for an entrepreneur to pursue-
one that would give new ventures important
advantages. Why does this opportunity offer a
good foundation for starting a new venture?
Step 1:
Construct a list of recent changes in (1) technology,
(2) demographies (changes in the make-up of the
population), (3) life style and other social changes,
(4) markets, and (5) government policies. List these
changes on the following form.
Changes You Observe
Technology:
1.
2.
3.
62 PART 1 Entrepreneurship: Who, What, Why?

Demographies (changes in the makeup of the Step 2:

population): Once you construct the list, try to identify the
1. following: (1) new products or services that these
2. changes xnake possible, (2) new markets that they
open up, (3) new production processes that they allow
3.
firms to use, (4) new raw xnaterials that they make
possible, and (5) new ways of organizing to which
Life style and other social changes:
1. these changes would lead. Remexnber to identify the
source of the opportunity that you identified.
2. Example: The invention of the Internet (techno-
3. logical change) creates an opportunity to sell books
without having a free-standing bookstore (new way of
Markets: organizi:ng).
1. 1.
2. 2.
3. 3.
4.
Government policies:
1.
s.
2. If you succeed, congratulations! You have accom-
3. plished the fu·st, crucial step in the entrepreneurial
process: identifying a good, potentially profitable
entrepreneurial opportunity.

lndustry Analysis
We discussed the impmtance of analyzing the
industry that your new business will enter to make
sure that it is a good one for new ventures. This
exercise will give you some practice in analyzing an
industry to determine whether it is a good environ-
ment fo1· new ventures. Please follow steps described
here.
Step 1:
For eacb of the five business opportwùties that you
listed in the preceding exercise, identi.fy the industry
in wlüch the opportunjty would be found. Define, in
words, the industry in. which the business will
operate. Thetl match that business description to the
U.S. govemment's list of national industrial codes,
wlüch you can find at http://www.census.go.v/epcd/
naics02/naicod02.htm.
Step 2:
Once you have a definition of the industries in which
ym.t r five business opportnnities will operate and the
national industrial codes that correspond to each
lndustry, evaluate the favorability of the these
industries to new firm fom1ation across the tl1ree
main dimensions we described earlier in the chapter:
knowledge conditions, industry life cycles, and indus-
try structw-e. Remember to consider ail aspects of
each of these dimensioxts of industry. For each of your
five opportunities, provide evidence for why the
industry is favorable or not favorable for a new firm.
1.
2.
3.
4.
s.

Should a New Firm Pursue the Opportunity?
Comparing the Opportunity Fit with
Established Firms
Earlier in this chapter, we discussed the advantages
that established firms have in exploiting entrepreneu-
rial opportunities. Consider the possibility that a
large, established firm also identified each of the five
business opportunities you identified in the first
exercise. Explain why that company would be better
or worse than your new venture at exploiting each of
the opportmüties. Remember to consider ail of the
advantages that large, established fums have in
 CHAPTER 2 Entrepreneurial Opportunities : Their Origins, Forms, and Suitability for New Ventures
pursuing opportunities that we discussed in this
chapter: learning curves, reputation, positive cash
flow, economies of scale, complementary assets, and
sa on.
":· case wo
Entrepreneurial Activities: Their Origins, Forms, and Suitability for
New Ventures
ln the Information Age, it seems as though information
about people is becoming more and more accessible, ta
more and more people who might want it-whether ta
make financial decisions on credit, ta deliver advertising,
or, weil, who knows? Privacy ought ta be an increasing
interest, one would suppose, and an issue ripe for taking
up in an entrepreneurial venture, right?
A number of start-ups aimed at providing privacy-
enhancing services sprang up in the early waves of
lnternet-focused companies. To date, the results have
been relatively disappointing: Lots of people may have
concerns about privacy, but few are willing ta spend real
money on it, even in the face of federal regulations
mandating a greater attention ta it.
Federal regulation gave privacy- and security-
focused ventures several major hooks on which ta hang
business plans, including the Health lnsurance Portability
and Accountability Act of 1 996 (universally known by its
acronym, HIPAA) in the area of persona[ health informa-
tion; Graha,m-Leach-Biiley, for financial information; and
Sarbanes-Oxley (known colloquially as SOX) for corpo-
rate governance compliance.
Sorne companies launched for a particular purpose
(e.g., general document control and management)
rebranded with a vengeance as HIPAA solutions
providers.
HIPAA spawned a rather large industry in HIPAA
compliance training and education. (You've encountered
the effects of HIPAA if you 've received any medical
services in the past few years, and have been presented
with a notice of privacy practices to acknowledge.) But it
hasn't yet produced a sufficiently large demand for
secure messaging to drive up revenues for companies
such as Zix Corporation, which went public as a wireless
63
Reasons Why the Large Company Would Have an
Ad van tage:
Reasons Why a New Venture Would Have an
Advantage:
technology company, then switched to secure messag-
ing in 1 999, hoping to catch that wave. lts stock has
been spiraling downward steadily, and now trades for
under a dollar, a harbinger of delisting from the Nasdaq.
Even with both technological and regulatory change
favorable to selling privacy, either as a service or as a
feature of a product, such as more secure e-mail tools,
demand has been insufficient to overcome the various
obstacles ta adoption.
That situation might change. Over the past year, in a
number of high profile incidents, persona[ information
from many, many people was exposed (e.g., sorne
26 million U.S. veterans in the theft of a laptop computer
owned by the Veteran's Administration in May 2006) .
This news is almost certainly driving up demand for tools
to better secure mobile deviees such as laptops and
persona! digital assistants (PDAs).
And regulations, currently somewhat vague (HIPAA
is near universally known of, but if you asked 1 00
information security specialists what it would take ta
implement its Privacy Rule, you'd see a lot of head
scratching), could be focused and tightened. ln the wake
of a major breach at one of its state processing centers,
California passed a state law requiring companies that
suffer breaches that expose persona! information (e.g.,
names and social security numbers, which would be
sufficient for a perpetrator ta steal someone's identity) of
California residents ta notify those victims or face fines.
Th at California law is being considered . for adoption
nationwide, in the wake of the recent cases at the VA and
elsewhere.
Jeff Ubois was one of the founders of the cleverly
named Disappearing, lnc., which offered systems for
managing e-mail, including an ability to add expiration
64 PART 1 Entrepreneurship: Who, What, Why?
dates to messages (hence the name) to ensure that
information wouldn't "grow legs" and travel beyond its
intended recipients. "We got going back in 1998
because we believed e-mail privacy was unattainable
for legal reasons, i.e. that the threat wasn't the man in the
middle, it was a lawyer with a subpoena, and that the
technical problems were related to the multiplicity of
copies, and their stubborn persistence over time."
But, says Ubois, "lt turned out to be very difficult to
sell privacy to either companies or individuals. At the
corporate level, privacy has been an afterthought.
Concerns, if they exist at ali, tend to revolve around
potential liability, loss of intellectual property, and com-
pliance with GLB, SOX, HIPAA, and other similar ru les. ln
the absence of sorne clear legal requirement, companies
don't spend on money it."
He says that the Canadian company Zero-Knowledge
Systems was "probably the best of the companies
selling privacy to individuals. One of the problems with
that is that no one had lots of friends using secure e-mail,
i.e., there is a type of social proof required to make people
think it's worth the hassle." He also cited the technical
burden as a problem: "Most e-mail security technologies
were and are pretty difficult to use." Seing hard to use still
seems to be the case-do you send or receive encrypted
e-mail yourself?
Zero-Knowledge has gotten out of that business,
shuttering its services for individuals and shifting to
providing system management services to Internet
l'lote y
1 Hofer, E. (1973). Reflection s on the Human Condition.
ew York: HarperCollins.
2 McMullen, J.S., & Shepherd, D.A. (2006). Entrepreneurial
action and the role of UJ'lœrtainty in the theory of the
entrepreneurs. Acndemy of Management Rcuiew, 31, 132- 152.
3 Lee, j.H., & Venka taraman, S. (2006) . Aspira tions,
market offerings, and the purstùt of en trepreneurial
opportunities. Journal of Business Venturing, 21, 107-123.
4 Kirzner, I. (1997). Entrepreneurial discovery and the
competitive market p rocess: An Austrian approa ch. The
Journal of Economie Lilernture 35, 60- 85.
5 Schumpteter, J.A. (1934). The The01y of Economie Devel-
opment: An Inquiry into Profits, Capital Credit, Interest, and
the Business Cycle. Harvard University Press Cambridge,
MA.
6 Bhide, A. (2000). The Origin and Evolution of New
Businesses. New York: Oxford University Press.
service providers, a more lucrative business than selling
something that everyone says that they might care about,
but that few will pay for, even if it's just the time and
attention needed to click on a button to encrypt e-mail.
Disappearing, lnc., has itself, in fact, disappeared. lt
was acquired in 2004 by Liquid Machines, after changing
its name to the decidedly less-interesting Omniva Policy
Systems. Ubois's experience was that of a good many
entrepreneurs, where the venture ends more in a
whimper than a bang: "As a founder ... 1 watched the
national value of my stock rise quickly, plateau, and
collapse. Though 1 did sell sorne shares before the
company was acquired, the acquisition by Liquid
Machines didn't return anything to the founders of the
company, nor caver the investment made by the VCs."
Questions
1. How can a small, entrepreneurial company anticipate
regulatory changes that might provide a window of
opportunity to introduce new services?
2. A skeptical view on entrepreneuring in the market for
secure messaging is that, "If it turns out to be
valuable, Microsoft will just add it into the Windows
operating system and ali the companies offering it
will go out of business." Do you agree?
3. What legal and regulatory changes might we see in
the near future that will provide opportunities for
entrepreneurs?
7 Shane, S. (1996) . Explaining variation in rates of
entrepreneurship in the United States: 1899-1988. Journal
of Management, 22 (5), 747- 781.
8 Holmes, T., & Schmitz, J. (2001). A gain from trade: From
u"n pr0ductîve to prod uctive entrepreneurship. Journal of
Mo11etary Economies, 47,41 7-446.
9 Baum, ] ., & Oliver, C. (1992). lnstitutional embeddedness
and the dynamics of organizational p op ulations. Americn11
Sociological Reuiew, 57, 540-559.
10 Dobbin, F., & Dowd, T. (1997). How policy shapes
competition: Earl y railroad fo und ings in Massachusetts.
Administrative Science Quarter/y, 42, 501- 529.
11 Feldman, M. (2001). The entrepreneurial event revisited:
Firm formation in a regional context. Industrial and
Corpornte Change, 10 (4), 861-891 .
12 See note 5.
 Entrepreneurial Opportunities: Their Origins, Forms, and Suitability for New Ventures
13 Ruef, M. (2002). Strong ties, weak ties, and islands:
Structural and cultural predictors of organizational
innovation. Industrial and Corporate Change, 11 (3), 427-
450.
14 Utterback, J. (1994). Mastering the Dynamics of Innovation.
Boston, MA: Harvard Business School Press.
15 Parker, S.C. (2006). Learning about the unknown: How
fast do entrepreneurs adjust theîr beliefs? Journal of
Business Ventùring,21, 1- 26.
16 Mansfield, E. (1985). How rapidly does technology leak
out? ]oumal of Jndustria/ Economies, 34 (2) 217- 223.
17 Shane, S. (2003). 'rhe .Tndividuai-Opporttmity Nexus
.1-pproach to B11lrepreneursllip.
18 Dean, T., Brown, R.; & BamJord, C. (1998). Differences in
large and small firm responses to environmental context:
Strategie implications from a comparative analysis of
business formations. Strategie Management foul'llal, 19,
709-728.
19 Audretsch, D., & Acs, Z. (l994). New firm start-ups,
technology, and macroeconomie fluctuations. Swall
Business Economies, 6, 439-449.
20 Acs, Z., & Audretsch, D. (1989). Small firm entry in U.S.
manufacturing. Economica, 255-266.
21 Eisenhardt, K., & Schoonhoven, K. (1990). Organiza-
t:ional growth: Linking founding team, strategy, envir-
onment, and growth among U.S. semiconductor
ventures, 1978-1988. Administrative Science Quarterly,
35, 504-529.
22 Mata, J., & Portugal, P. (1994). Life duration of new firms.
The Journal of l11dustrial Economies, 4.2 (3), 227-243.
23 Shane, S. (2001). Technology regimes and new firm
formation. Management Science, 47 (9), 1173-1181.
65
24 Barnett, W. (1997). The dynamics of competitive inten-
sity. Administrative Science Quarterly, 42, 128- 160.
25 Audretsch, D. (1991). New firm survival and the
technological regime. Review of Economies and Statistics,
441-450.
26 See note 17.
27 See note 21.
28 Audretsch, D., & Mahmood, T. (1991). The hazard rate of
new establishments. Ec01wmic 36, 409-412.
29 Aldrich, B. (1999). Organizatious Evolving. London: Sage.
30 Tushman, M. & Anderson, P. (1986). Teclmological
discontinuities and organizational environments. Ad-
minist·rntive Science Quarter/y, 31, 439-465.
31 Arrow, K. (1962). Economie welfare and the allocation of
resources for inventions. In R. Nelson (ed.), The Rate and
Direction of Inventive Activity. Princeton, NJ: Princeton
University Press.
32 Parker, S.C. (2006). Learning about the unknown: How
fast do entrepr neurs adjust their belie.fs? Jounml of
Bush1ess Venturiug, 21, t- 26.
33 Christiansen, C. & Bower, J. (1996). Customer power,
strategie investme1.1t, and the failure of lead:ing firms.
Strategie Mm1agemen.t Jo1tmal, 17, 197-218.
34 Winter, S. (1984). Schumpeterian competition in alter-
native technological regimes. Journal of Economie Behavior
and Organizatio11, 287-320.
35 Branzei, Q., & V rtinsky,.l. (2006). Strategie pathways to
.rr duct innovation capabilities in SMEs. Journal of
Bllsiness Ventul'ing, 21, 75- 105.
36 Meyer, J.P., & Herscovitch, L. (2001). Commitment in the
workplace: Toward a general model. Human Resource
Management Review, 11, 299-326.
 1/IPap te'P 3

tJ 6jec.-tive5-
a0-te, -'/,eadtn?' thiS< cira;:•te-'/,, p-()U }/r()utd Qe a6te t():

1 Explain why èognitive processes provide an

important foundation for understanding creativity
and opportunity recognition.
2 Explain why we tend to use heuristics and other
"mental shortcuts," and how these shortcuts can
affect entrepreneurs.
3 Define creativity and explain the role that concepts
play in it.
4 Distinguish between analytical, creative, and prac-
tical intelligence, and explain how ali three are com-
bined in successful intelligence.
5 List several factors that influence creativity, as
described by the confluence approach.
6 Explain the role of access to information and
utilization of information in opportunity recognition.
7 Explain why opportunity recognition can be viewed
as involving pattern recognition.
8 Describe various ways in which entrepreneurs can be
trained to be better at recognizing opportunities.

66
 Cognitive Foundations of Entrepreneurship: Creativity and Opportunity Recognition 67

People think that at the top there isn't much room. They tend to think of it as an
Everest. My message is that there is tons of room at the top.
-Margaret Thatcher, 1988

How often have you moved your home in recent years? If
you are like many people, more times than you would
prefer, because Americans-and an increasing number of
people in other countries, too-are definitely on the go,
following their careers, their preferences, and their lives,
from one location to another. And when people move,
they tend, more than in the past, to do at least part of it
themselves, which means they use an incredibly large
number of cardboard boxes. Where do they get them?
Sorne come from grocery stores and other businesses
where they are sometimes free, but a majority are
purchased new from moving companies or from move-
it-yourself businesses such as U-Haul. And what
happens to the boxes after the move is over? Most
people keep a few (for future moves) but don't have
room to store ali of them, so the boxes are eut apart and
thrown away-a major waste of resources, because many
could be used again. One entrepreneur-Marty Metro-
considered this situation and, after discovering that he
and his wife had moved a total of 63 times (!), perceived
it as an opportunity and the basis for a new business
(see Figure 3.1 ). Why not set up an online marketplace
where individuals, and big companies, tao, could buy
and sell used cardboard boxes? lt would allow
individuals to get the boxes they need at a fraction of
the original cast and then resell them after their latest
move. And big companies could get rid of used boxes
they no longer need. So Metro and his wife established
UsedCardboardboxes.com, and he traded in his BMW
for a delivery truck. UsedCardboardboxes.com picks up
unwanted cardboard boxes and resells them. lt has won
contracts with booksellers, clothing importers, manufac-
turers, and even sorne real estate companies. Used
Cardboardboxes.com delivers the boxes and then picks
them up after the customer's move. Right now, Metro's
company focuses on the area between Los Angeles and
San Diego-a huge market with millions of highly mobile
customers-but it has plans to expand into 50 cities
across the United States. With sales approaching
$1 million and gross margins of 75 percent, UsedCard
boardboxes.com seems to be "on the move" itself!
Figure 3.1 Where Do the ldeas for New Ventures Come
from?
How did Marty Metro get the idea for his new company-
UsedCardboardboxes.com? And why did he and not someone
else recognize the need it met? These basic questions in the
field of entrepreneurship are examined in this chapter.

If you asked Marty Metro-and countless other entrepreneurs-how they

came up with the ideas for their new ventures, many would reply, "By
noticing a need that is not now being met and filling it-preferably in a way no
one else is currently doing." Why do sorne individuals and not others notice
these unmet needs? Among the people who do, why do only a few then move
ahead to found new ventures? These questions lie close to the heart of
entrepreneurship and have long been of major interest to researchers-and
anyone else-who wants to understand the entrepreneurial process. In
Chapter 2 we focused on various sources of opportunities such as technolog-
ical change, political and regulatory change, and social or demographie
change; in addition, we also considered the role of industry-related factors
in this process. In this chapter, we'll shift our focus from these macro-level
68 PART 1 Entrepreneurship: Who, What, Why?

variables back to individual entrepreneurs and exam.ine tluee related topics:

idea generation (the production of ideas for something new), creativity (the
generation of ideas that are both new and potentially useful), and opportunity
recognition (the process through which i.ndivid:uals conclude that they have
identified something new that has the potential to generate economie value,
i.e., future profits).
Although many approaches to understanding these processes ex.ist, we
beüeve that among them, a cognitive perspective is especially help.ful. Because
new ideas and the recognition of emerging opportunities must, ultimately,
occur inside the heads of partictùar individuals, .important insights into these
processes can be gained by focusing on basic aspects of human cognition-the
mental processes through which we acquire ù1formation, enter it into storage,
transform it, and use it to accomplish a wide range of tasks (e.g., making
decisions, solving problems). 1 Indeed, we believe that h·ying to w1derstand
idea generation, creativity, and opportunity recognition without caref4l attention
to their cognitive origins is like to trying to solve complex rnathematical
problerns without a basic knowledge of algebra and calculus: In both cases,
essential tools are lacking. In the discussion that follows, therefore, we will
focus on the cognitive foundations of these crucial, initial steps in the
entrepreneurial process.
ldeas, including those for new products or services, do not emerge from
nowhere; on the contrary, they occw· when individuals use existing knowledge
they have gained (and retained) from their experience to generate something
new- thoughts they did not have before. Often, this process is stimulated by
sorne extemal event or occurrence, for instance, a new experience, information
provided by other people, or simply by observing changes in the world arow1d
us. But no matter how or why the process begins, it depends heavily on the
"raw materials" individuaJs already possess-their unique store of knowledge.
For this reason, we will begin with a brief overview of the cognitive systems that
allow us to store knowledge and transform it in various ways-including
changing it into something new. These structures are the basis of idea
generation, wlùch is often the start of the entrepreneurial process. Following
tlùs discussion, we'll tum to creativity-the act of com.ing up with something
that is not merely novel but useful, too. As pa1t of this discussion, we consider
ways rn which you can enhance your own creativity. Finally, we will turn to the
key topic examined in this chapter, opportunity recognition:-the cognitive
process through which specifie individuals condude that they have identified
an opportw.ùty-the basis for a new business \?enture (see Figure 3.2). We will
examine the basic nature of this process and what current knowledge about
human cognition (how we tl:ùnk, reason, rnake decisions, and so on) tells us
aboutit. We'll conclude with a discussion of steps you-as current or future
entrepreneurs-can take to enhance your own ability to recognize valuable
opportunities.

Figure 3.2
ldea Generation, Creativity, and
Opportunity Recognition
These three processes can be
viewed as fa/ling along a dimension
moving from origination of ideas ldea Generation Creativity Opportunity Recognition
that may or may not be useful Production of ideas for Production of ,jdeas For Recogmltion ideÇJs are
{idea generation) to ideas that are something new. something new thot is also not 9nly new and polentially
not on/y new but a/so potentially potentially useful. useful, but also have the
useful (creativity), and final/y to potentiel to generale
ideas that are not on/y new and economie value.
usefu/, but a/so have the potentia/
to generate economie value - - - - - - - lncreasing Relevance to Founding New Ventures
{opportunity recognition).
 CHAPTER 3 Cognitive Foundations of Entrepreneurship: Creativity and Opportunity Recognition 69

The Raw Materials for Creativity

and Opportunity Recognition:
Cognitive Systems That Allow Us
to Store-and Use-Information
learning
objective
1
In an ultirnate sense, everything we think, say, or do is influenced by, and Explain why cognitive
reflects, cognitive processes occurring inside our brains. Are you reading and processes provide
understanding these words? Can you conjure up an image of what you a te for an important foundation
dinner last night, the house where you grew up, the face of the persan you for understanding
love most dearly? Can you play a musical instrument? Ride a bicycle? Speak creativity and opportunity
more than one language? Do you have plans for the future? Mernories of recognition.
events that occurred many years ago? Goals? Intentions? All these activities
and countless others reflect cornplex neurochernical events occurring within
your brain. Indeed, recent advances in neuroscience now permit us to observe
the activities that occur within our brains as we think, reason, and rnake
decisions?
Cognitive processes are clearly the basis for generating new ideas, for
creativity, and for opportunity recognition, but why do sorne people gl;!nerate
ideas for new products or services or identify opportunities for profitable new
ventures overlooked by others? To take one concrete exarnple, why did Jack
Kelly and Bob Ohly, founders of Caffe Ladro, a rapidly growing chain of
coffeehouses, corne up with the idea of selling only coffee certified by
independent sources to have been purchased at fair priees from growers
(many of whorn are poor peasants)? In fact, it was such a good idea that Caffe
Ladro cornpetes successfully against Starbucks in its own horne town of
Seattle. The answer, we suggest, involves the fact that Kelly and Ohly had just
the right cornbination of past experience-and just the right store of
information at their disposal-to permit them to forrnulate and execute this
innovative business strategy. To repeat: We are suggesting that the raw
rnaterials for new ideas and for recognizing opportunities are present in the
cognitive systems of specifie people as a result of their life experience. Because
everyone's experience is unique, the information they have at their disposai,
too, is unique, which is a key reason why specifie ideas occur to sorne
individuals but not others.
To the extent this reasoning is correct, two basic questions arise: (1) What
are these cognitive systems for retaining and processing information like? and
(2) Can they be stretched or irnproved in ways that enhance creativity and the
ability to recognize opportunities? We'll consider the second question in detail
as part of our discussion of opportunity recognition. Here, though, we think it
is important to pave the way for our later discussions of creativity and
opportunity recognition by briefly describing the nature of our cognitive
systems for retaining and processing information.

'5ffst&n

A basic finding in entrepreneurship research is that the more experience

people have in a given field, the more likely they are to identify opportunities
in it. 3 Why should this be so? In part because such experience provides a
wealth of useful information people can store and later use in various ways to
create or recognize sornething new. The most basic cognitive system for
storing information is known as rnemory, and life without it would be
70 l'ART 1 Entrepreneurship: Who, What, Why?

unthinkable. Without memory, we would be unable to recall the past, retain

new information, solve problems, or plan for the future. So clearly, memory is
a key aspect of our cognitive systems.
Actually, memory consists of several closely related systems. One, known
as working memory, holds a limited amount of information for brief periods of
time-perhaps up to a few seconds. If you look up a phone number and then
try to remember it just long enough to dial it, you are using working memory.
Another is known as long-term memory. This system allows us to retain truly
vast amounts of information for long periods of time. In fact, research findings
indicate that how rouch long-term memory can hold or how long it can retain
such information is unlimited. So, in fact, you can go on learning throughout
life without any apparent limit to the amount of information you can retain or
the number of skills you can acquire.
As you already know from your own experience, memory can hold
severa! different kinds of information. Sorne in volves factual knowledge you can
readily put into words (e.g., How far is it from New York to Los Angeles?
What is an iPod? Who was the first president of the United States?), and sorne
involves more personal knowledge about events we experienced as
individuals (e.g., memories of your first trip to the dentist, your first love,
the first time you had an idea for a new venture).
Still other information we retain in memory is rouch harder to express
verbally than the preceding two types. For instance, skilled athletes can't
readily explain to others how they perform so well. Similarly, musicians can't
state how they remember a long piece of music-they just do. In fact, trying to
express this kind of information in words can interfere with these activities
(see Figure 3.3). Such information is stored in procedural memory.
Venture capitalists (VCs) often state that they can recognize a good idea
for a new venture when they see it, almost by intuition. In fact, this process is
not really mysterious. They may simply be using information stored in
procedural memory-information they cannat readily express in words but
that still plays an important role in their judgments. Specifically, they may
have learned, through long experience, that certain factors are useful
predictors of new venture success. For instance, as we'll note in Chapter 5,
new founded by partners who have complementary skills and

Figure 3.3 Procedural Memory in Action

Information stored in procedura/ memory al/ows us to perform ski/led actions such as the ones shown here. This information, a/though
present in memory, cannot readily be described verbal/y. ln facr, trying to do so con have negative effects. If t he people shown here
tried to describe what they were doing white doing it, thelr performance might weil suffer. Similarly, research fmdlngs indicate thot
venture capitalists cannot exp/ain cleorly how they choose the new ventures they wish to support. They use proceduro/ memory, but
can't describe in words how they use it to make their decisions.

a.
<{

g
Q)

a:
·o
0

"'
@
 CHAPTER :s Cognitive Foundations of Entrepreneurship: Creativity and Opportunity Recognition 71

abilities are more likely to succeed than ones in which the founders have
virtually identical training and experience. Similarly, experience tells them
that new ventures are more likely to succeed if at least sorne of the founders
are good, persuasive communicators. Although VCs may find it hard to
describe these principles explicitly, their decisions may still be strongly
influenced by them-by information stored in a kind of nonverbal memory. 4
We refer to such information at severa! points in future chapters, because it
illustrates an important fact about human thought: Often, our decisions and
ideas are influenced by factors we can't readily describe but are still real.
Procedural memory is just a shorthand term for noting that we have the
capacity to retain information of this type-information we can't readily
describe in words. 5

Using and Transforming Information: The Role

of Cognitive Frameworks
Retaining information we acquire from experience is important, but it is only
part of the total picture. In addition, we must also be able to interpret new
information as we encounter it and to integra te it with the information already
present in memory. Interpretation and integration are essential for creativity
and for recognizing opportunities, because these activities involve generating
or recognizing something new-something that is not already present in
memory. .
Research in the field of cognitive science suggests that we accomplish
these tasks of interpreting new information and relating it to information we
already possess by creating cognitive frameworks that help us to do so. Severa!
kinds of cognitive frameworks exist, but perhaps the most important from the
point of view of understanding creativity and opportunity recognition are
prototypes-idealized representations of the most typical member of a
category. Prototypes represent the modal or most frequently experienced
combination of attributes associated with an object or pattern. For instance,
most people possess a prototype for "house." This cognitive framework is
broad enough so that everything from a huge mansion to a simple cottage can
be recognized as a house, while other objects that do not match this prototype
well (e.g., tents, skyscrapers, shopping malls) are excluded. For example, the
prototype of "house" would probably include such attributes as doors,
windows, rooms in which to sleep, eat, and wash, a roof or other protection
from the elements, and so on, but would not include such attributes as a glass,
aluminum, or cloth exterior (tents, skyscrapers). Similarly, as we'll soon note
in more detail, entrepreneurs or would-be entrepreneurs may possess a
prototype for "business opportunity," and recognize as opportunities only
ones that match this framework closely. Such prototypes are important
because they help entrepreneurs perceive connections between seemingly
unrelated events or trends, and these connections, in turn, suggest new
products or services that can serve as the basis for new ventures. In short,
prototypes may play a key role in opportunity recognition. For example,
consider a recent invention, the Microplane, a new kind of grater now listed by
most cooking magazines as a definite must-have product for any fully
equipped kitchen.
The cutting edges of the Microplane (see Figure 3.4) are based on high-
quality woodworking tools, and as a result, they work wonders on almost
everything from hard cheeses to oranges and lemons. For instance, grating
orange peel is truly a "snap" with a Microplane; this task can be clone quickly
and easily, and without the skinned knuckles or fingers old-style graters often
produced. Because the wood-working tools on which the Microplane is based
were available for decades, an intriguing question arises: Why didn't someone
think of using them as the basis for in a kitchen deviee sooner? Perhaps
because most people's prototypes for "graters" do not include this type of
72 PART 1 Entrepreneurship : Who, What, Why?
Figure 3.4
Protoypes and Creativity
The food grater shown here is far
superior to others currently on the
market because the cutting blades
are based on too/s used in nne
woodworking. These tools have
existed for centuries, so why didn't
anyone incorporate them into
food graters before? Perhaps
because the prototype for food
graters held by most individuals
did not include this kind of blade,
which prevented them from seeing
that it could be used in this kind of
product. But Lorraine Lee and her
husband Leonard were fami/iar
with this kind of b/ade and used
their cognitive frameworks to
stretch their prototypes of "food
grater'' into this highly successful
new product.
learning
objective
2
Explain why we tend to use
heuristics and other "mental
shortcuts, " and how these
shortcuts can affect
entrepreneurs.
blade. ln fact, the Mia·oplane was developed when Lorraine Lee,
a homemaker in Ottawa, Canada, was making an orange cake
and became frustrated witl1 ber old grater. She picked u.p a
woodworking tool her husband bad brought home from their
hardware store, and slid an orange across it: She was ama2ed at
the results-shavings dropped effortlessly from the orange! She
told her husband about tltis new use for a woodworkù1g tool,
and they quickly changed the description of the tool in the
catalog for their business, Lee Valley Tools. So in fact, the two
people who came up with the idea for the Mio·oplane were
familiar with woodworking and woodworking tools. As a result,
their prototype for "food grater" was broader in scope than that
of most people (or could be readily stretched in certain
c directions), which helped them to recognize an opportunity for
a highly usefu l new tool. We examine the role of prototypes and
.;_ other cognitive frameworks in opportunity recognition in more
t
detai l in Jater sections. Here, we simply want to note that such
0 frameworks may shed important light on these processes.
::J
0
ü
Cimitd tt; "PIWte>->-
and Sa ?Zou Copnttive
Now that we have outlined what are, in a sense, the "production facilities" for
creativity and opportunity recognition, we should cali your attention to one
other basic aspect of hu.man cognition-the fact that at any given time, it has
limited capacity to process (i.e., deal with, interpret) information. So clltl1ough
ur ability to add to the knowledge stored in memory and other mental
systems seems unlimited (we can go on leaming our entire lives), there ap-
pear to be fairly strict limits on how .much information we cau handle at once.
This is due to the fact tl1at working memory-th.e short-term system we
described above--can hold only a limited amount of information at any time.
And since tltis system seetns to be the contact point between what we are
tltinking about right now and information stored in memory, its limitations
create <l bottleneck in our efforts to make sense of our experiet1ce and to crea te
something new.
As a result of this limited capacity to process information, we often adopt
mental shortcuts, or tactics for stretching our limited capacity as far as possible.
These tactics are helpful from the point of view of conserving precious mental
capacity, but can also Iead us ilüo serious errors. Further, our tendency to rely
on such shortcuts is strongest at times when om cognitive systems are strained
to the limit-when we are required to process large amounts of information in
a short pet:iod of time (e.g., make important decisions quickJy or on the basis
of incomplete ittformation). If tltis sounds like the situation faced by many
ntrepreneurs much of the time, it is! For this reason, it has been suggested
tl1at entrepreneurs may be more susceptible to these cognitive biases and
errors than people in many other fields or occupations. 6 We will refer to the
potential role of these errors in various aspects of the entreprenemial process
in later chapters, so it is useful to briefly describe sorne of them here.
Many of these kinds of errors exist, but among the most common is our
tendency ta rely on heuristics-simple rules for ma king complex decisions in
a rapid and relatively effortless mrumer. Perhaps the most importm1t is the
availability heuristic. This mental rule suggests that the easier it is to bring
information to m.ind, the more important or accurate we perceive it to be, and
hence the greater its impact on our subsequent judgments or decisions.
Further, the more information we can bring to mind, the greater the
importance we assign to it? Althou,gh this heuristic seems reasonable, it can
j,
 CHAPTER 3 Cognitive Foundations of Entrepreneurship: Creativity and Opportunity Recognition 73

lead to important errors, primarily because dramatic or unusual information is

easier to recall than more mundane information. Thus, it may influence our
thinking and our decisions to a greater extent than is justified. For instance,
imagine an entrepreneur who is trying to choose a key employee. Among the
several applicants, one is much more expressive and outgoing than the others.
La ter, when trying to remember the interviews, the entrepreneur finds it easier
to recall what this persan said, which may tip the decision in that job seeker' s
favor, even though other applicants are actually better qualified.
In addition to heuristics, many other "tilts" or potential errors in our
thinking result from the same general tendency to conserve our limited
processir1g capacity. Three are especially common-and dat1 erous: the
optimistic bias, the confirmation bias, and the illusion of control. In its most
basic form, the optimistic bias refers to the tendency to expect things to turn out
well even when a persan has no rational basis for such expectations.
Susceptibility to the optimistic bias may be one reason why sorne individuals
choose to become entrepreneurs: They expect to attain success even though the
odds are strongly against them, and a re highly ov rconfident concerning the
likelihood of positive outcomes. 9 Moreover, this is especially true of found er-
managers who actually started their new ventures than persans who are
simply managers of such new businesses. 10 One common form of the
optimistic bias is known as the planning fallacy-the tendency to believe that
we can complete more in a given period of time than we actually can. You
have probably observed this tendency in your own thinking. Unless you are
unusual you probably underestimate how long it will take you to complete
various tasks, and also overestimate the amount you can get clone in a given
period of time. The planning fallacy and other aspects of the tendency to be
overoptimistic have been observed among both entrepreneurs 11 and venture
capitali ts 12 and can strongly influence the decisions of both.
Even though the optimistic bias is dangerous, in a sense, the confirmation
bias can be even worse. This refers to the tendency to notice, process, and
remember information that confirms our current beliefs (or, at least is consistent
with them) much more readily than information that disconfirms our current
beliefs. All too often, we live in a self-constructed "echo chamber"-the only
information that gets through is information that strengthens our current views.
Clearly, this error can be a serious one for entrepreneurs who cannat afford to
ignore information contrary to their current beliefs-for instance, market
information or information about actual or potential competitors.
The illusion of control refers to the tendency to assume that our fa te is under
our control to a grea ter extent than is actually the case-ta believe that we have
more control over what happens to us than rational considerations suggest.
Research findings indicate that this belief may be another important factor in
many individuals' decisions to become entrepreneurs; They believe that the
fate of the new ventures they start is largely under their control, and so
underestimate the potential impact of economie conditions, competitors, and
many other factors that are, in fact, largely outside their influence. 13
This is only a small sample of the many potential sources of error in
human cognition that have been uncovered in careful research. Others are
summarized in Table 3.1. The main point of the present discussion is simply
this: Because we must deal with the basic dilemma of a limited capacity to
process information in the face of large amounts of input, many aspects of our
cognition are far from entirely rational. On the contrary, they are subject to a
wide range of tilts and biases that do indeed save effort, but also increase the
odds of serious errors. Successfully navigating through these dangerous
waters is crucial for entrepreneurs, so we will have reason to refer to this basic
theme at many points in this book. (For discussion of one potential cognitive
error that can be especially dangerous for entrepreneurs, please see the
Danger! Pitfall Ahead! section on the next page.)
74 PA lt "î 1 Entrepreneurship: Who, What, Why?
Table 3.1 Potential Sources of Errer in Human Cognition
Because we possess limited capacity to process information, we often adopt "mental shortcuts" to stretch this capacity and to reduce
our effort. As shown here, this tendency underlies many different potential errors in our thinking.
Representative A mental rule-of-thumb suggesting that the more
heuristic closely an event or abject resembles typical
examples of sorne concept or category, the more
likely it is to belong to that concept or category
Availability heuristic A mental rule-of-thumb in which the importance or
probability of various events is judged on the basis
of how readily information concerning the event can
be brought to mind, or how much information can
be readily recalled
Anchoring-and- A cogni tive ru le-of-thumb in which existing
adjustment heuristic information is accepted as a reference point but
then adjusted to lake account of various "factors
- -- -
The tendency to notice and remember information
-
Confirmation bias
thal confirms our views
Optimistic bias The tendency to assume thal things will turn out weil
even without any rational basis for this prediction
Planning fallacy The tendency to assume thal we can accomplish
more in a given period of lime than is true (or to
underestimate the amount of time il will take to
compl ete a project)
Escalation of
-- -
The ten dency to stick with decisions that yield
commitment negative results even as the negative results
(sunk costs) continue to mount
- -
Affect infusion Emotions have powerful effects on thinking
(e.g., when in a good mood we notice and remember
positive information; when in a bad mood, we notice
and remember negative information)
PITFALL AHEAD!
1
.uroo Much lnvested to Quit":
The Potentially Devastating EHects
of Sunk Costs
Have you ever heard the phrase " Throwing
good money after bad"? lt refers to the fact that
in many situations, people who have made a
bad decision-one that is yielding negative
outcomes-tend to stick to it even as the
evidence for its failure mounts. They may even
commit additional time, effort, and resources
to a failing course of action in the hope of
somehow turning it around_ This tendency to
become trapped in bad decisions is known as
sunk costs or escalation of commitment,
and is very common ; it happens to investors
who continue to hold stocks that fall sharply,
and to people in troubled relationships, who
An individual is assumed to belong to seme
occupation or group because she or he resembles
the stereotype for thal group or occupation
People assume thal the chances of dying in a lire or
airpla11e crash are greater than those of dying in an
automobile accident because the media report fatal
fires and airplane crashes more dramatically than
automobile accidents thus making them easier
to remember
- -- - --
Negotiators accept their opponent's opening offer as
a framework for further bargaining ·
Entrepreneurs become increasingly convinced thal
an idea for an new product is viable because they
notice and remember only information thal supports
this view
Entrepreneurs believe thal the odds they will
succeed are much higher than they actually are
An entrepreneur assumes thal each stage in starting a
new venture will take less lime to complete than is
actually true
An entrepreneur continues efforts to market a
product in a specifie way even though these efforts
produce a mounting string of failures
An entrepreneur who is in a bad mood when
interviewing a job applicant recalls mainly negative
information about this persan; in contras!, the
entrepreneur recalls mainly positive information about
an applicant interviewed while in a good mood
often remain in them when ali their friends urge
14
them to withdraw . Escalation of commitment
also happens in decision-making groups. They,
too, find it difficult to adm it that they made a
mistake, and so cling to bad decisions that
generate increasingly negative results_ Re-
search findings indicate such effects-
sometimes described as collective entrapment
(a group becomes trapped in a bad decision)-
are especially likely to occur in cases where
groups have exerted a lot of effort ta make the
initial decision and sa feel strongly committed
to il-conditions that often apply to the found-
ers of new ventures.
Why do such effects occur? Why do
people tend ta stick to decisions even if they
are producing negative results? For severa!
CHAPTER 3 Cognitive Foundations of Entrepreneurship: Creativity and Opportunity Recognition 75

DANGERI PITFALL AHEADI (Continued)

reasons. First, sticking with a decision is, initially, failed, taking their profits, resources, and
quite rational. Giving up too quickly can be a dreams down with it.
mistake, and if the decision was made carefully This and many other instances of entre-
to start with, it makes sense to continue with it, preneurs who stick to initial decisions despite
at least for a while. As losses mount, though, mounting evidence that they are bad ones,
other processes that are not so rational come indicate that escalation of commitment is
into play. People are unwilling to admit that they definitely a serious cognitive error, one with
made a mistake because doing so will cause potentially devastating consequences.
them to lose face and look foolish. Similarly, What can be done to minimize the risk
those who made the initial decision want to of this kind of error? Several steps are useful.
justify their actions, and the best way to do so One involves deciding, in advance, that if
is to continue on the present course and some- losses reach certain limits, or negative results
how make it turn out weil. continue for a specifie period of ti me, no further
Whatever the precise basis for escalation resources will be invested and the decision will
of commitment, it poses a real danger to be changed. This step is hard to take, but it is
entrepreneurs because new ventures simply similar to "stop loss" orders in the stock market:
cannot afford to stick with poor strategies or lt does limit the losses that will be sustained.
business models. For example, consider Another strategy involves assigning to individu-
StorageNetworks, a company that in the late ais other than the ones who made the original
1990s had a market value in the bill ions, but decision the task of deciding whether to con-
was forced to liquidate just a few years later. tinue. Because they did not make the original
StorageNetworks started with what seemed to commitment, they are often less committed to it.
be a promising idea: lt would provide storage of A third approach involves creating a culture in
data to large companies, thus saving them the which people do not feel that they will lose face
expanse of buying expansive
storage facilities themselves. (Continued)
The founders stuck to this idea
and at first it seemed to work
weil. But soon, serious flaws in Figure 3.5 Escalation of Commitment Can Be Costly!
this business model appeared. Sticking to ideas or decisions even when they produce negative
outcomes is a serious danger for entrepreneurs. Such esca/ation of
As more and more stories of commitment may play a key rote in the failure of many promising
"data-pirating" appeared in companies. A c/ear example is provided by StorageNetworks. This
the media, many customers company failed when its founders stuck to the idea of providing data
became nervous about turning storage for large companies even as these potential customers became
increasingly nervous about turning over confrdential data to someone
over confidential data to
else and began to hire their own security specialists. The result?
StorageNetworks. They StorageNetworks failed and was forced to liquidate.
preferred to hold their own
data and to hire their own
security specialists to protect
it (see Figure 3.5). Second, as
technology advanced, the
costs of storing data in-house
dropped sharply, thus making
StorageNetworks' services
superfluous. Despite these
tacts, though, the founders of
StorageNetworks stuck to
their original ideas-and
ultimately, paid the full priee
for doing so: The company
76 PART 1 Entrepreneurship: Who, What, Why?

.____ _;;;;.D..;ANGERI
;..; PITFALL AHEADI (Continuee/)

if they reverse earlier decisions now fou nd to be
poor ones. Rationally, this approach makes a lot
of sense, but as you might guess, it can be
difficult to implement.
Overall, it is clear that escalation of com·
mitment and collective entrapment in bad
decisions represent serious threats to the
success of new ventures. For this reason,
entrepreneurs should be tully aware of these
potential pitfalls and take active steps to avoid
them. Doing so can be a challenging task, but
one weil worth the effort: The companies they
save may be their own 1

Creativity: Escaping
learning
objective
3
Define creativity and explain
from Mental _Ruts
Now that we have provided you with the necessary "tool kit" concerning
the role that concepts play in it. human cognition, we can turn to one of the two central topics of this chapter:
creativity (the generation of ideas that are both new and useful) . Research
conducted from a cognitive perspective provides important new insights into
the nature of this crucial process, and how, precisely, it occurs.

. &
Suppose you were asked to name people high in creativity: Who would be on
your list? When faced with this question, people come up with names such as
Albert Einstein, Leonardo DaVinci, Thomas Edison, and Sigmund Freud.
These famous individuals worked in different domains, so what do they all
have in common? Essentially, they all created something almost everyone
agreed was new-theories, inventions, and other contributions that did not
exist before. As we noted earlier, however, newness, by itself, is not enough.
Most researchers who studied creativity define it as involving two key aspects:
the items or ideas produced are both novel (original) and appropriate or
useful-they meet relevant constraints. In other words, they can actually work
The U.S. Patent Office applies the same criteria to patent applications: not only
must an idea be new, but it must be useful too. (A third requirement is that it
be nonobvious-it would not be something that would be obvious to anyone
with "standard" knowledge of a given field or kind of product.)
 CHAPTER l Cognitive Foundations of Entrepreneurship: Creativity and Opportunity Recognition 77

Creativity is important for everal r ason : lt provides new kn wledge,

products, and other advances that qm improve th quality of human !ife. It is
som what smpri ing to leam , therefore, that w1til recently, it was not the subject
of systematic research. Why? Primarily beca11Se our understanding of human
cognition was not sufficiently advanced to offer a soiid framework for
illter,preting creativity in of basic cognitive processes. During the past
two decades this situation has chang d greatly, and at present, there is general
agreement that creativity in a11 domains-science, medicine, the arts, and day-to-
da y living-emerges from a relatively small set of basic cognitive processes.
What are tl1ese processes? Most re earch suggest · that two aœ ce:nb:al. One
uwolves sb·etching or expandu1g tl1e internai COgJ.1itive &ameworks we cons tru ct
to organize information (the kind of frameworks we described earlier). The
second involves the operation of various facets of human intelligence.

CtJnap/3: l3hclzy IJj

The amount of information stored in long-tem1 memory is vast, soin order to
make it easier to retrieve and tLSe tlüs information, we rgarùze it in various
ways by crearu1g internai framework to hold .it. These sh·ucture take many
different forms (we discu sed the natw-e of prototypes earlier), but with
respect to creativity another ku1d of framework, concepts, are even more
relevant. Conc pt are categorie for abjects or events tbat are somehow
similar to each other in certain re pects. Consider, for instance, the word
bicycle, ail·plane, automobile, and e/evator; aU are included in the concept vehicle.
Similarly, the words slwes, shirts, jeans, and jackets are ail induded in the
concept clothing. As you can ee, the abjects within each f these concepts
differ greatly, but are also similar to ach other in certain underlying respects
(e.g., ali vehicles are used to move p ople from one place to another). In a
sense, then, concept act as a kind of "filing system" in memory, and once
established, can help us to store n.ew information. For instance, do you
rememb r tl1 Tis ue-Cup, a product we mentioned in 01apter 1? Altl\Ough
this new product did not exist before, the first lime you saw it you would
probably relate it to one or more concepts you already possess-for in tance
"convenience deviees" or "car-related products."
Concepts exist in memory in hierarchical networks that reflect the
relationships between them. For in tance, the concept animais includes birds,
fish, and u1sects. Animais, in other words, is higher il1 our hierarchy of
concept than birds, fi h, and in ects. The category of biràs, in turn, includes
penguins and canaries. Similarly, fish includes sharks and salmon. And insects
includes butterflies and mosquitoes. The same is true for many other concepts;
they too are organized into hierarchical structures.
The fact' thatwe s tore information in memory in an organized manner ha
two major implications for creativity-one positive and the other negative. On
the "pltLS" side of the ledger, such internat structw- enhances our ability to
retrieve the va t amount of knowledge induded in long-term m.emory, and
titis giv s u better access to the raw materials from. which new ideas can
emerge. On the downside, however, the fact that knowledge is organized iri
memory often constrains our thinking, assuring that in general, it stay pretty
much within what have sometimes been described a mental ruts. ln ther
words, the interna} structures we create for ourselves are so strong that we
find it very difficult to escape from, or think outside, them. Here's a striking
example.
In the mid 1970s, engin ers and scientists at Sony Corporation were
charged with the task of developu1g music CD . They mad great progress but
tùtimately gave up for the following reas n: The CDs they produced stored
fully 18 hours of music, which wa viewed as being too large to be marketable.
Why did th CDs hold so much? Because the engineers made tJ1en1 the ame
78 PART 1 Entrepreneurship: Who, What, Why?

size and shape as existing LP records! Although they were brilliant scientists
and engineers, they simply could not escape from the "mental ruts" created by
their past experience to realize that the new CDs could be any size they
wished!
Here's yet another, and perhaps even more amazing example of how
cognitive organization can interfere with creativity. The Inca of South America
had an advanced civilization-one whose achievements astounded the
Spanish explorers who first encountered them. But one invention they did
not possess was wheeled vehicles; items to be transported were loaded on
animais or dragged on poles-no carts or wagons existed. Yet-and here's the
really surprising fact-Incan children played with models of wheeled carts. So
the Inca had the idea of putting wheels on vehicles, but for sorne reason, they
viewed this design as suitable only for toys! lt is hard to imagine a more
dramatic illustration of the power of mental ruts to constrain human thought.
If the impact of mental ruts can be this strong, you may be wondering,
how do people ever escape from them? How, in short, does creativity ever
occur? The answer seems to involve the fact that concepts can sometimes be
expanded, thus paving the way for creativity. In other words, creativity
emerges when basic mental processes allow for the expansion or transforma-
tion of concepts so that something new appears. This process did not occur
among the Inca, who seemed unable to expand the concept of "wheeled toy"
into "wheeled full-scale wagons," but it does occur in many other instances
and can be encouraged. Specifically, concepts can be stretched or expanded in
several different ways.
First, concepts can be combined, with the result that something new is
generated. For instance, consider the concept of the "Luxury SUV." The
concept of "all-wheel drive, off-road vehicle" has been combined with the
concept of "luxury vehicle" to produce something that never existed before,
but quickly gained tremendous popularity. When concepts that appear to be
initially opposite are combined, the result can be novel indeed-for example,
as in nonalcoholic beer.
Concepts can also be expanded. In fact, this is often what happens with
new products-even ones that represent a major breakthrough. For instance,
the first railroad ca\s looked very much like the horse-drawn carriages they
replaced. The concept of "carriage" had been expanded to include a vehicle
for moving people, but what resulted was very similar to the original concept
in appearance, if not means of propulsion. Similarly, early television sets were
often placed in beautiful wooden cabinets because they were seen as a form of
furniture-another type of home entertainment deviee such as radios and
phonographs, and those items had been presented to consumers as furniture
(see Figure 3.6).
A third way in which concepts can be changed or expanded is through
analogy. Analogies involve perceiving similarities between objects or events
that are otherwise dissimilar. For instance, statements such as "Knowledge is
like a light in the clark" or "My love is like a red, red rose" involve analogies.
Knowledge is not really like a light, and lovers are not like red roses. By
making such comparisons, however, it is sometimes possible to break out of
our mental ruts. The history of science, technology, and the arts is filled with
_examples of creative advances based, in part, on analogy. For instance,
Rutherford's view of the hydrogen atom as similar to a planetary system in
sorne respects (a large nucleus in the center with electrons revolving around it)
and de Mestral' s invention of Velcro after examining how burrs dung to his
clothing with minute hooks are examples of reasoning by analogy. When
concepts are stretched through analogy, creativity is encouraged and impor-
tant advances can result (see Fjgure 3.7) .15
Does the creativity shown by entrepreneurs emerge from the same
processes? There seems little doubt that it does; after ali, why should
 CHA'f'TE ) Cognitive Foundations of Entrepreneurship: Creativity and Opportunity Recognition 79

"'iiia:
- 0
-. 0

Figure 3.6 Creahvity Often lnvolves the Expansion of Concepts

Eor/y railway cars resembled carriages because the people who deve/oped them slmply "stretched" their concept of wagon to came up
with this new means of moving people from place to place. Simi/arly, eor/y television sets were placed in beauti(u/ wooden cabinets
because the designers perceived them as fitting into the concept offurniture. They simply expanded this concept to include television.

entrepreneurs present an exception to a pattern shown over and over aga in in

science, medicine, and the arts? In short, we agree with Robe1"t Bresson, a
French film director, who once noted, "An old thing becomes new if you
detach it from what usually surrounds it." When concepts are separated from
the hierarchical mental structures of which they are a pa1t by combining them
with other concepts, by expanding them, or through analogy, they may indeed
become new- or at !east, point the way toward acts of creativity that, in the
hands of energetic and motivated entrepreneurs, generate something truly
new. Here's a good example: Many products have a money-back guarru1tee; if
the customer is n't satisfied, she or he wiJJ receive a refund. Dut what about the
following idea, which occurred recently to Gregg Steiner, a founder of Pil1xav,
a company that produces a cream for babies' diaper-rash: Faced with a group
of consumers who reacted to the company's money-back guarantee with
yawns, he came up with something more: '1f you don't like the product, I

Figure 3.7 Expanding Concepts Through Analogies: An Important Source of Creative Theory
When Swiss scientist Georges de Mestrallooked at the burrs thot stuck to his clothes after wa/king through fields, he noticed thot the
burrs had tiny hooks thot became affached to the threads of the fabric. Through ana/ogy, he reasoned thot he could crea te a use fui
means of affQching things to each other with a simflar system of tiny plastic hooks-and Velcro was born/
80 PART 1 Entrepreneurship: Who, What, Why?
4
learning
objective
Distinguish between analytical,
creative, and practical intelli-
gence, and explain how ali
three are combined in suc-
cessful intelligence.
Knowlng that their 28-year-old son was planning
to move back home, Phil and Gretchen Cranford
hi red professional actors to help them out.
Source: United Press Syndicale, November 19, 2003.
Figure 3.8
Practical Intelligence in Operation
The choracters in thîs cartoon have
come up with a creative-and
workable!-way to solve a prob-
lem. Being able to solve the
problems of everyday fife in
effective ways is a key feature
of practical intelligence.
won't simply give you your money back-l'll buy you our competitors'
product, any brand you want." That idea, which is indeed new, quickly caught
consumers' attention and resulted in rising sales Pinxav. The lesson is clear:
Creativity can indeed give entrepreneurs an important edge.
tVUt
Another important factor in creativity (and in opportunity recognition, too) is
human intelligence. Here's a vivid illustration of this point:
Two individuals, a university professor and an entrepreneur are walking in the
woods when they spot a ferocious grizzly bear charging in their direction. The
professor, whose field is physics, estimates the speed of the bear and the speed at
which they can run away from it. He then states, "Stop running. There's no
way we'll ever be able to escape from that bear. He will catch us in 15 seconds."
The entrepreneur, however, keeps on running. When the professor àsks why,
the entrepreneur shouts back over her shoulder, "You're right-1 can never
outrun the bear. But 1 don't have to outrun it; ali 1 have to dois outrun you!"
This unusual tale has an important moral: Intelligence is indeed an
important ingredient in success, but it is not necessarily the kind of intelligence
measured by standard IQ tests. Instead, it is the kind of
intelligence useful in meeting the many challenges of
!ife-challenges posed by an ever-changing world. This
fact is widely recognized by psychologists, who
currently define intelligence as individuals' abilities
to understand complex ideas, to adapt effectively to the
world around them, to learn from experience, to engage
in various forms of reasoning, and to overcome a wide
range of obstacles. As you can see, this definition
suggests that intelligence has severa! different facets: It
is not a unitary phenomenon. In fact, it is now widely
recognized that human intelligence can be divided into
severa! different kinds: 16ann/ytic intelligence, which
involves the abilities to think critically and analytically
(this is the kind measured by traditional IQ tests);
creative intelligence, which involves the ability to
formulate new ideas and gain insights into a wide
range of problems (this is the kind shown by scientific
geniuses and inventors such as Einstein, Newton, and
Edison); and practical intelligence, which involves
being intelligent in a practical sense (individuals high
in such intelligence are adept at solving the problems of
everyday !ife, as shown in Figure 3.8). Another corn-
panent in this mixture may be what is sometimes
described as social intelligence, the ability to understand
others and get along weil with them.
A growing body of evidence suggests that in order
to be creative-and successful-entrepreneurs need a
balanced mixture of ail three components, something
one expert in human intelligence, Robert Sternberg, terms successful intel-
ligence.17 Specifically, entrepreneurs need creative intelligence to come up
with new ideas, practical intelligence to identify ways to develop these ideas,
and analytic intelligence to evaluate the ideas and determine whether they are
worth pw·suing (see Figure 3.9). 18
Although Sternberg does not specifically mention social intelligence-the
skills required to get along effectively with others-there is little doubt that it,
too, plays a role. We'll consider this topic again in Chapter 5; here, we simply
 CHAPTER 3 Cognitive Foundations of Entrepreneurship: Creativity and Opportunity Recognition 81

Figure 3.9
Practicallnlelligence Successful Intelligence: A Basic
P\bîlity to 501ve Requ irement for Entrepreneurs
of,everydoy fife One expert on human intelligence,
Robert Sternberg, suggested that
in order to succeed, entrepreneurs
Analytic lnlelligence need a high levet of successful
Ability to thini/. intelligence-a good b/end of prac-
eritically and
c;Jnalytic!;JIIy tica/, analytic, creative intelligence.

Creative lnlelligence
Ability to forrnufotë new
ideos and new ways
ôf selving ptoblems

Source: Sternberg, 2004; see note 18.

wish to note that social intelligence is a key ingredient in entrepreneurs'

success. Without it, entrepreneurs can experience major problems in obtaining
the financial and human resources they need to convert their dreams into
reality. 19 So this aspect of intelligence is also important.
In sum, human intelligence does indeed play a role in creativity and in
entrepreneurship, but in a more complex way than was once assumed. The
intelligence required by entrepreneurs to be creative and to found successful
new ventures is much richer and more multifaceted than the kind measured
by standard IQ tests. In this respect, informai observation about entrepreneurs
(and other creative individuals) is correct: often, they have not been brilliant
students who demonstrated exceptionally high analytic intelligence while in
school. Rather, their intellectual assets are more apparent in practical settings
such as the modern, rapidly changing world of business.

7lte
Now that we have considered the role of practical and successful intelligence
in creativity, it seems appropriate to examine another important question:
"What can be done to enhance it?" Perhaps the best way of answering this
question is by considering the factors that contribute to its occurrence; to the
extent these factors are maximized, creativity is encouraged. What factors
encourage creativity? As we already noted, the field of cognitive science
suggests that basic cognitive processes underlie creative thought. Creativity
emerges from the operation of severa! kinds of memory, the expansion or
merging of c ncepts, and related processes?0
Although the cognitive approach to creativity provides important insights
into the factors that contribute to it, a somewhat broader view includes
additional factors. This view, which has gained increasing acceptance in recent
years, is known as confluence approach. As its name suggests, it proposes that
creativity emerges out of the confluence (i.e., convergence) of several basic
learning
objective
5
List several factors that
resources: 21 influence creativity, as
described by the con-
• Intellectual abilities-the ability to see problems in new ways, the ability to fluence approach .
recognize wlùch ideas are worth pursuing coupled with persuasive
skills-being able to convince others of the value of these new ideas
(a combination of successful and social intelligence)
• A broad and rich knowledge base-a large store of relevant information in
memory, without which the cognitive foundations for creative thought are
lacking
 82 PART Entrepreneurship: Who, What, Why?

Figure 3.10
Creativty : The Confluence Intellectuel Abilities
Approach
The confluence approach suggests A Broad and Rich
that creativity stems from the Knowledge Base
convergence of severa/ factors. The
most important of these inc/ude
An Flexible
certain intel/ectua/ abilities, a Style of Thinking
broad and rich know/edge base, an
appropriate style of thinking,
certain personality attributes, and t::ertain Pèrson_olily Trait$
(e.g., a willingriess tq lake
high intrinsic motivation.
risks and tolerqte ornbiguity)

An Environmenl Supportive
of Creative Idees

Source : Based on suggestions by Sternberg and Lubart, 1995; see note 21 .

• An appropriate style of thinking-a preference for thinking in novel ways,

and an ability to "see the big picture"-to think globally as well as locally;
in essence, a propensity for escaping from mental ruts
• Personality attributes-such traits as willingness to take risks and to tolera te
ambiguity help individuals to consider ideas and solutions others
overlook
• Intrinsic, task-focused motivation-creative people usually love what they
are doing and find intrinsic rewards in their work
• An environment that is supportive of creative ideas-one that does not impose
uniformity of thought and one that encourages change
'1
The confluence approach suggests that to the extent these factors are
present, creative thought can emerge (see Figure 3.10). A large body of
evidence offers support for this view, so it appears to be quite useful. 22 And
this, in turn, suggests several techniques you can use to increase your own
creativity and enhance the likelihood that you will generate ideas that can be
the basis for successful new ventures.
First, and most important, it is clear that new ideas do not emerge out of a
vacuum. Rather, they derive from combining, stretching, or viewing existing
information in a new way. This means that in arder to be creative, it is essential
to have lots of information at your disposai. There are many ways of gaining a
broad and rich knowledge base, but research findings indicate that among the
most useful ways of gaining a broad and rich knowledge from the point of
view of becoming an entrepreneur are (1) having varied.work experience (e.g.,
the more jobs people have held, the more likely they are to become self-
employed 3), (2) having lived in many different places,24 and (3) having a
broad social network-many friends and acquaintances who can shaTe therr
knowledge with you.25 All of these factors i.ncrease the amom1t of infom1ation
individuals have at their disposai and make them more creative. So, if you
want to enhance your own creativity, you might consider structuring your life
so as to broaden your own knowledge base, the foundation from which
creative ideas spring.
Second, as the confluence approach suggests, you should cultivate a style
of thinking that helps you break out of mental ruts, which is more difficult
than it sounds. lt is always easier to think in routine ways than to question our
own beliefs. One way of doing so is to make sure that the people with whom
you spend time are not all highly similar to yourself. To the extent they are,
 Cogn it ive Foundations of Entrepreneu r sh i p: Creativity and Opportun ity Recognition 83

you will tend to agree with one another about most issues and will not
challenge each others' beliefs. If, instead, you count among your friends
people from different backgrounds and occupations, and who have contrast-
ing views on a wide range of issues, they can help you develop flexible, open
modes of thought and, in turn, can enhance your creativity.
Third, you should try to work in environments that encourage rather than
discourage creativity. One reason many people choose to become entrepre-
neurs is that they feel stifled by the corporate world, which often leaves little
room for imagination or originality. The best organizations, in contrast,
tolerate or even encourage innovation among their employees. They also often
tend to be more open about distributing information to employees. Many
studies suggest that working in such jobs can broaden your knowledge base
while simultaneously encouraging you to think creatively. 26
In sum, you can take a number of steps to increase your own propensity to
think creatively. To the extent you make these part of your daily life, you will
become more creative and increase your ability to come up with ideas that can,
perhaps, lead to successful ventures. Creativity is impressive and in the hands
of the right individuals, it can literally change the world. But we now know
that it stems from factors that are far from mysterious, and which are, to an
important degree, under our own control.

Opportunity Recognition:
A Cognitive Perspective
As we noted in Chapter 1, identification of a potentially valuable opportunity
is a key initial step in the entrepreneurial process. Entrepreneurs' decisions to
found new ventures often stem from their belief that they have identified an
opportunity no one else has yet recognized, and can benefit from being first to
enter the marketplace. 27 Because it is often the start of the entrepreneurial
process, it is not at ail surprising that opportunity recognition has long been a
central concept in the field of entrepreneurship. Until recently, however, little
effort was made to examine it as a process. Rather, opportunities were defined
largely in economie terms: Any idea for a new product, service, raw material,
market, or production process that can be successfully exploited so as to
generate economie benefits for stakeholders was viewed as constituting an
opportunity?8 Although this perspective certainly makes sense, defining
opportunities entirely from an economie perspective overlooks severa! key
questions.
First, it largely ignores the question of how this process occurs; in other
words, how do specifie individuals actually identify opportunities generated
84 PART 1 Entrepreneurship: Who, What, Why?

by changes in economie, technological, and social conditions (described in

Chapter 2)? Clearly, this active process involves human cognition, a11d
understanding how it occurs nùght weil suggest ways of enhancing its
occurrence-techniques for helping current or future entrepreneurs identify
opportunities that will benefit not only them, but many others who ultimately
use the new products or services they develop.
Second, and closely related, why do sorne individuals but not others
recognize specifie opportunities? Often, opportunities are there for anyone to
notice; yet, thousands or even millions of people do not notice them . Why?
And carrying this a little further, how do indi.viduals conclude that an
opportunity tl1ey have noticed is one they, rather than others, can actuallfg
identify? This question, too, appears to be an important aspect of the process. 9
As we'U soon see, understanding the cognitive foundations of opportunity
recognition can help to answer these important questions.
Third, ali opportunities are certainly not equal in potential value; sorne are
blind alleys leading to economie disaster, while others have real potential for
generating persona! and societal wealth. Why are sorne individuals so much
better than others at distinguishing between what are sometimes terrned false
(opportunities fuat in fact don't really exist), and opportunities that
offer the real possibility of significant economie gains? In this discussion, we
review existing evidence relating to these and other important issues
concerning opportunity recognition. As we'll soon see, this evidence suggests
that two factors-having better access than others to certain kinds of
information and being able to use this information effectively-play a crucial
°
role. 3 For this reason, we consider these factors first. In addition, h0wever,
severa] other factors influence opportunity recognition. For instance, actively
searching for opportunities can be helpful, and being alert to them when t11ey
exist can be beneficiaJ. 31 Further, having prior knowledge of an industry or
market and a broad social network can also assist entrepreneurs in recognizing
certain opportt.mHies. We'Jl examine the effects of aU of these factors and will
also consider the potential role of a basic cognitive process (pattern
recognition).
One more point before proceeding: recently, there has been a debate in the
field of entrepreneurship over the question of whether opportUJùties exist in
the external world or are created by human minds.32 We believe that there is in
fact no basis for conh·oversy over this issue : Opportunities, as a potential (i.e., a
pattern that could potentially be observed), come into existence in the external
world as a result of changes in knowJedge, technology, markets, and political
and social coi,ditions. However, they remain merely a potential untiJ they are
recognized by a specifie persan. ln a sense, therefore, opportunities both exist
"out there" and are the creation of human thought. 010osing between these
two ideas is not necessary, because both are valid. Now, back to ow:
discussions of opportunity recognition as a process.

learning
objective
6
Explain the role of access to
acuyy
7he
and ...fty téjjtXtWtJ t1Je:

information and utilization of
information in opportunity
recognition.
The question of why sorne people and not others discover opportunities is an
important one: If we can understand why certain people recognize
opportunities that others don't yet notice, we gain key insights into how this
process takes place and how it can be enhanced.
Research on this question suggests that a big part of the answer involves
the central role of information. Specifically, it appears that sorne people are
more likely than others to recognize opportunities because (1) they have better
access to certain kinds of information, and (2) they are able to utilize this
information once they have it.
 CHAPTER 3 Cognitive Foundat ion s of Entrepreneursh ip : Creativity and Opportunity Recognit ion 85

Greater Access to Information

With respect to the first of these points (greater access to information), it
appears that specifie individuals gain increased access to information useful
for identifying opportunities in several ways. For example, they may have jobs
that provide them with information "on the cutting edge" that is not widely
available to others. Jobs in research and development or marketing appear to
be especially valuable in this respect. 33 Another way in which individuals gain
superior access to information is through varîed work and life experience-
factors that, because they contribute to individuals' knowledge base, also
increase their creativity. 34 Finally, entrepreneurs often gain enhanced access to
information through a large social network. 35 As you may k:now from yoUJ·
own experience, other people are a valuable source of information and often,
the information they ·provide cannat be acquired easily in any other way.

Superior Utilization of Information

Greater access to valuable information is not the entire story, however.
Entrepreneurs who recognize opportunities not only have greater access to
information than others, they are also better at using such information. In
other words, cognitive processes enter the picture. First, because of their
greater access to information, sorne people have richer and better-integrated
stores of knowledge than others, such as more information (retained in
memory) about markets and how to serve them.36 This knowledge, in turn,
enhances their ability to interpret and use new information because not only
do they have more information at their disposai, it is also better organized. As
we noted earlier, large quantities of well-organized information play a key role
in creativity. After all, it is hard to stretch information or combine it in new
ways if it is not present or if it is not well organized. lndividuals who identify
opportunities demonstrate richer and better organized stores of information,
so it is not surprising that they are better able to perceive opportunities others
often miss. 37
Other aspects of cognition play a role. For instance, people who found new
ventures tend to be higher in intelligence than those who do not (e.g., managers).
Moreover, entrepreneurs have been found to be higher in intelligence even when
it was measured many years in the pa t-when they were, on average, 12 years
old!38 Additional evidence suggests that entrepreneur are especially likely to be
higher than others in practical intelligence-the ability to solve the varied
problems of everyday life. 39 Finally, and again, far from surprising, entrepre-
neurs are higher in creativity.40 In other words, they are more adept at
combining the information at their disposai into something new.
In sum, it seems clear that a key component in opportunity recognition is
information-greater access to it, and better cognitive tools for putting it to
good use (see Figure 3.11 for a summary of these points).

atlditVJnd a>pectY tJj-

active
Md 5tJciat Î1duJ()'lky
While access to information plays a key role in opportunity recognition, three
other factors, too, have been found to be important: engaging in an active
search for opportunities, alertness to opportunities (the capacity to recognize
them when they emerge), and prior knowledge of a market, industry, or
customers as a basis for recognizing new opportunities in these areas. Past
research suggests that all three are important, and in a sense, all three are
related to gaining access to and using information. For instance, with respect
to an active search for opportunities, many studies indicate that entrepreneurs
 86 PART Entrepreneurship: Who, What, Why?

Figure 3.11
Opportunity Recognition: The Jobs Thot Offer Access
to "Cu"ing-Edge"
Central Role of Information Information
As shown here, opportunity
recognition stems, to an important Varied Work and
degree, from greater access to Life Experience
information and greater capacity GIIICifer Acceu Jo
OpporfunifrRelateJ
to utilize it. lnlomiorion
Possession of a Lorge
Social Network

Active Search for

Opportunities (e.g.,
entrepreneurial
alertness schema)

Richer and More

lntegrated Stores
of Knowledge Grwaflr Abl1ify Jo
Ulilla op,.Junlfr
Higher Proctical Relofecl lnfonnGIIon
Intelligence

are more likely than others (e.g., managers) to engage in such activitiesY
Additional evidence for the importance of active search is provided by an
intriguing study in which a group of highly successful entrepreneurs (they all
belonged to the Oücago area Entrepreneurship Hall of Fame) were compared
with other entrepreneurs who were not so eminent.42 The highly successful
entrepreneurs were found to be less likely to identify their opportunities from
public information such as magazines, newspapers, and trade publications,
and more likely to seek opportunities in more unique sources, such as personal
contacts and more specialized publications. These and other findings indicate
that actively searching for information is an important factor in the recognition
of many opportunities by entrepreneurs, although, as noted by several
authors, such searches must be carefully directed to succeed. 43 ln sorne cases,
.. searches can proceed in a relatively "automatic" manner rather than in a
conscious and carefully directed one. 44
Entrepreneurial alertness, in contrast, emphasizes the fact that oppor-
tunities can sometimes be recognized by individuals who are not actively
searching for them, but who possess "a unique preparedness to recognize
them" when they appear. 45 Kirzner, who first introduced this term into the
entrepreneurship literature, defined it as "alertness to changed conditions or
to overlooked possibilities." 46 What are the foundations of entrepreneurial
alertness? It has been suggested that alertness rests, at least in part, on
cognitive capacities possessed by individuals- capacities such as high intel-
ligence and creativity. 47 These capacities help entrepreneurs to identify new
solutions to market and customer needs in existing information and to imagine
new products and services that do not currently exist. Here's one recent
example: An entrepreneur who had previously been a firefighter enrolled in
courses at a technological university. In these courses, he leamed that recent
technological advances had produced small signaling deviees capable of pin-
painting a firefighter' s exact location as well as software capable of representing
these locations accurately on à computer screen. The former firefighter was not
actively searching for business opportunities, but was highly alert to them and
as a result, concluded that these technological advances could form the basis for
a new venture-a company that would manufacture signaling deviees that
 CHAPTER 3 Cog ni t i ve Foundations of Entrepreneu rship : Creativity and Opportunity Recognition 87

Figure 3.12
Alertness : A Key Factor in
Opportunity Recognition
Being alert to opportunities-being
prepared to recognize them when
they occur-is one important
factor in opportunity recognition.
Opportunities can emerge even
when the entrepreneurs in question
are not active/y searching for them.
For instance, a former firefighter
who takes engineering courses may
recognize an opportunity created
by recent technologica/ advances:
the possibility of developing small
signaling deviees that will pinpoint
the location of individual fire-
fighters in burning buildings or
firefighters could wear when they entered burning buildings or other dangerous other danger places. The entre-
places. Because their precise location could then be indicated on a computer preneur recognizes this opportunity
screen, others would know if they were experiencing difficulties or were in because past experience makes him
danger, and many lives could be saved (see Figure 3.12). In fact, the firefighter a/ert to it. {ln (act, a company
went on to found a new venture to exploit this opportunity (Tiercent, Inc.) and it named Tiercent was recent/y
is currently developing precisely this kind of product. started by former firefighters ta
develop precise/y this kind of
More systematic evidence for the importance of cognitive processes in equipment.)
entrepreneurial alertness has been obtained in many studies. For instance, as
we noted earlier, intelligence has been found to be linked to fow1ding new
ventures. 48 Creativity, another aspect of cognition, has also been found to play
a role in ale1tness; for instance, entrepreneurs tend to score higher on various
tests of creativity than other individuals. 49 Additional findings indicate that
other persona! characteristics promote alertness. For instance, optimism-the
belief that events will generally result in favorable outcomes-has been found
to be positively linked to opportunity recognition. 50 And perception of risk
may be important, because individuals who perceive high levels of risk in
many ituations may be reluctant to view almost any idea as a
bona fide opportunity. 51
A third factor that influences opportunity recognition is
prior knowledge of a market or industry. Much evidence
indicates that information' gathered through rich and varied
life experience (especially through varied business and work
experience) can be a major "plus" for entrepreneurs in terms of
recognizing potentially profitable opportunities. For example,
it has been found that prior knowledge of customer needs and
ways ta meet them greatly enhances entrepreneurs' ability ta
provide innovative solutions to these problems-in other words,
to identify potentially valuable business opportunities. 52 In this
context, consider Julie Aigner-Clark, founder of the highly
successful company, Baby Einstein. Aigner-Cark founded the
Figure 3.13
company when she discovered that no age-appropria te products
were available to help her share her love of art, classical music, Prior Knowledge and Opportunity
language, and poetry with her new daughter. Recognizing this fact, she Recognition
combined music and colorful, real world images into the first Baby Einstein Because of her extensive expe-
video. Babies loved her products (see Figure 3.13), and she was soon on her rience as a teacher, julie Aigner-
C/ark, founder of Baby Einstein,
way to success. Why did she recognize this opportunity for a new family of
recognized the need for new
products when many other people did not? In part because she had extensive products that wou/d stimulate
experience as a teacher, and this supplied her with knowledge that helped her babies cognitive/y. As this photo
to recognize this major opportunity. suggests, babies love the products
Research findings strongly support the importance of prior knowledge in produced by her company.
opportunity recognition. 53 The broader this foundation of knowledge-
88 PART 1 Entrepreneurship: Who, What, Why?

especially knowledge concerning specifie markets or industries-the more

Active Search
Alertness
Social Networks
Figure 3.14
Important Factors in Opportunity
Recognition
A large amount of evidence
suggests that the factors shown
here-active search, a/ertness,
prior know/edge, and extensive
social networks-p/ay a key rote in
opportunity recognition.
opportunities, and the higher the quality of such opportunities, entrepreneurs
will tend to recognize.
Finally, a very different type of factor, the breadth of entrepreneurs' social
networks, has also been found to play an important role in opportunity
recognition. Specifically, the findings of severa! studies54 indicate that the
broader entrepreneurs' social networks (the more people they know and with
whom they have relationships), and the more confer-
ences and professional m eetir'fs they attend, the more
opportunities they identify .5 As we noted earlier,
social networks are an important source of informa-
tion for entrepreneurs, information that may contrib-
ute to the richness of their store of knowledge and
facilitate their searches for opportunities. For instance,
discussing opportunities they have with
farnily, friends, and others, may help entrepreneurs
determine whether ideas for new products or services
they have formulated are practical and potentially
valuable rather than merely interesting or novel. For
these and other reasons, a broad social network can
assist entrepreneurs in recognizing opportunities.
In sum, there is considerable evidence that these factors-active search,
alertness, prior knowledge, and breadth of social networks-play an impor-
tant role in opportunity recognition (see Figure 3.14). Having made that point
clear, we'll turn next to w hat is, perhaps, the "cutting edge" of our knowledge
aliout opportunity recognition-efforts to understand how it actually occurs,
the basic cognitive foundations of this important aspect of entrepreneurship.
Before turning to this topic, though, we'll fust examine a widespread belief
about opportunities-one many people hold to be true: "Good opportunities are
always spotted quickly, so it' s important to move on them as saon as they are
recognized." This belief is discussed in the Qualifying Common Sense section.

ye,: Mc._t 'J'V"6 'TÎ!-btt&

Know a6out -and 71/lrat w

fl
Good Opportunities are Always
11
emerge, opportunities are always noticed and
Spotted Quickly . .. " developed quickly?
Think about it: If that notion were true, then
What do you think? When good opportunities
. .

for new ventures emerge from changing con-

ditions in the external world, are they always
recognized quickly? "Common sense" sug-
gests they are, and the phrase "window of
opportunity" is often repeated in popular books
about entrepreneurship. The basic idea is that
opportunities emerge out of changes in tech-
nology, markets, demographies, government
policies, and other factors. When these factors
converge in sorne way, an opportunity emerges
and is "out there" to be recognized. So far, so
good. But does it also imply that when they
why, for instance, did the kind of wheeled
luggage nearly everyone uses today not come
on the market until the early 1990s? The
technology was certainly there, and so was
the market. No government-produced barriers
prevented the manufacture and sale of this
product. ln tact, flight crews had been using
wheeled luggage, or wheeled carts that could
be strapped to luggage, for decades. One of us
(Baron) recalls seeing pilots and flight attend-
ants rolling their luggage into airplanes in the
1960's, when he first began to use commercial
flights. Yet, despite this fact, he did not make
CHAPTER 3 Cognitive Foundations of E.ntrepreneursh ip : Creativity and Opportunity Recognition 89

what, in retrospect, seems to be a simple
connection and realize that he, too, could own
such luggage! Here, in short, is a prime example
of an opportunity that literally sat untapped for
many years. Why? We mentioned one possibility
earlier: No one made the right "connection" and
noticed that what worked for crew members
would also work for passengers.
But this is far from the only example of
opportunities that existed for years or decades
before they were developed. Here's another:
For severa! decades, large grocery chains have
been moving to the suburbs, largely deserting
inner-city neighborhoods. Yes, millions of peo-
ple live in those neighborhoods and need
groceries. Despite this tact, one moved to meet
these needs until one entrepreneur, Bill Moran
founded a new chain, Sav-A-Lot. Mr. Moran had
been a food wholesaler and watched many
" morn-and-pop" groceries located in relatively
poor neighborhoods of St. Lou is close their
doors. This gave him the idea of building
relatively small, low-price groceries in such
locations and he founded a new chain, Sav-A-
Lot. More specifically, he decided to open such
stores in spots where at least 50,000 people
lived within a two-mile radius. These people
could walk to the new Sav-A-Lot stores, and
they soon did just that. Sav-A-Lot, which now
has more than 900 stores, is showing rapid
growth in earnings, in sharp contrast to other
grocery chains that follow a more traditional
mode! (see Figure 3.15). Again, the main point
is that existed for many years before
Moran recognized it and developed it.
Examples such as these suggest that
common sense is wrong about this aspect of
opportunity recognition. lt is not enough-not
nearly enough-for an opportunity to emerge
and be potentially available. Literally nothing
happens until one or more individuals recognize
it as such and proceed to do something about
it. If that's true, it suggests that many excellent
opportunities are sitting out there right now,
unnoticed and undeveloped. Can we do any-
thing to increase the likelihood that they will be
noticed? The next section addresses this issue,
so read on to see what we now know about
the cognitive foundations of opportunity
recognition-and about how individuals can,
perhaps, be trained to accomplish tnis task
more effectively.

Figure 3.15 Opportunities Often Go Unrecognized

Contrary to what common sense suggests, good opportunities for new businesses are often over/ooked for
years-even decades. For instance, large grocery chains large/y deserted inner-city neighborhoods severa/
decades aga, /eaving many potential customers without a good source of groceries. This need was not
recognized until one entrepreneur, Bill Moran, founded Sav-A-Lot, a chain that specializes in opening
sma/1, /ow-cost stores in such locations.
90 PART 1 Entrepreneurship: Who, What, Why?

'iZUtJyutitJn Patt:&tn 'iZUtJyutitJn:

lJtJ ((CtJIZIU3d the JJ ttJ
learning
objective
7
Explain why opportunity recog-
At several points in this chapter we have noted that opportunity recognition
often involves noticing links or connections between seemingly unrelated
nition can be viewed as invol- trends or events. To the extent that's true, then an interesting possibility follows:
ving pattern recognition. Perhaps opportunity recognition is closely related to a basic cognitive process,
one we ali perform every day: pattern recognition. 56 Pattern recognition
involves noticing meaningful patterns in complex events, trends, or changes. In
essence, it includes (1) recognizing links between trends, changes, and events
that seem, at first glanee, to be unconnected, and (2) noticing that these
connections form an identifiable pattern. Bath of these steps, iri. turn, are
strongly influenced by the cognitive frameworks individuals possess-frameworks
they have developed on the basis of past experience (e.g., their prototypes). The
clearer and more fully developed these frameworks, the more likely are
individuals to recognize opportunities in a specifie domain, because in a sense,
they serve as templates or guides, helping individuals notice links between
diverse events and, in addition, patterns formed by these links.
Here's a concrete example: Consider a physician engaged in medical
research. Because of extensive on-the-job experience, she has a clearly
developed prototype for "effective treatment" of various diseases (e.g., such
treatments are safe, enhance the likelihood of recovery from the illness, etc.).
Further, this prototype may be especially clear for illnesses in which the
physician specializes-ones with which she or he has had considerable
experience. Now, imagine that this physician reads an article about a new
advance in scientific knowledge concerning sorne basic physiological
process-a process that, she believes, may play a role in certain diseases.
Using her prototype of "effective treatment" and perhaps other prototypes as
weil (e.g., prototypes concerning the nature of a given disease and how it
develops), she now recognizes potential links between the new scientific
advance and possible treatments for a specifie illness. In other words, her
prototypes help her to perceive a meaningful pattern in these diverse events.
She also realizes that confirmation of these perceived links will suggest ways
,, of developing new drugs effective in treating this illness. In short, she has
noticed this opportunity because prototypes she possesses have helped her to
do so-to notice an emergent pattern among seemingly independent events.
Direct evidence for the role of pattern recognition in the identification of
new business opportunities is provided by research designed to test this madel.
In one recent study, the cognitive frameworks for ''business opportunity"
possessed by novice and highly experienced repeat entrepreneurs were
compared.57 (The two groups were as closely matched as possible in ail other
aspects aside from experience in starting new ventures.) Bath groups were
asked to describe the opportunities for their current businesses and also the
reasons why they felt these opportunities were good ones, worth pursuing.
Careful analyses of their replies were then used to identify the prototypes of
bath groups for ''business opportunity." (Recall that prototypes are cognitive
frameworks representing the most typical member of a category or concept.)
Results indicated that highly experienced (repeat) entrepreneurs did in fact
possess clearer and richer prototypes than novice entrepreneurs. In addition, the
prototypes of the two groups differed sharply with respect to their specifie
content. The prototypes of experienced entrepreneurs included and emphasized
factors that have been found to influence the success of new ventures (e.g., cash
flow, meeting customers' needs). In contrast, those of novice entrepreneurs
tended to emphasize newness or novelty (see Table 3.2). In other words,
experienced entrepreneurs seemed to focus, in their efforts to identify
opportunities, on factors likely to influence success, while novice entrepreneurs
 \
CHAPTER 3 Cognitive Foundations of Entrepreneurship: Creativity and Opportunity Recognition 91

Table 3.2
How Business Opportunity
How novel the idea is Solving a customer's problems
Prototypes of Novice and Repeat
Extent to which the idea is based on Ability to generate positive cash flow
Entrepreneurs Differ
new technology
As shown here, when novice entre-
Superiority of product or service Speed of revenue generation preneurs think about opportunities,
Potential to change the industry Manageable risk they focus on such factors as
newness and novelty of products
Intuition or gut feel Others in their network with whom to develop
the venture or services, and on their own "gut
leve/" feelings and intuitions. ln
Source: Based on findings reported by Baron and Ensley, 2006; see note 57 , contrast, experienced (repeat)
entrepreneurs tend to focus to a
greater extent on factors likely
tended to become fascinated by sheer newness and relied much more on their to influence business success, such
intuition or "gut-level feelings." These findings suggest that opportunity recog- as generation of cash flow and
nition may indeed be closely linked, in sorne respects, to pattern recognition-ta holding risk to manageable leve/s,
perceiving identifiable patterns in arrays of seemingly unrelated events. and so on.
A pattern recognition perspective also sheds light on a key question relating
to opportunity recognition we raised earlier: Why do sorne individuals but not
others recognize specifie opportunities? A pattern recognition perspective
suggests the following answer. 58 Specifie individuals may recognize specifie
opportunities that many others overlook because they, and not others, possess
the cognitive frameworks (e.g., prototypes) needed to perceive patterns among
seemingly unrelated trends or events. Do you remember our discussion in
Chapter 1 of Chester Carlson, the individual credited with inventing the
modern copy machine? If so, you may recall that at the time he invented (or
rather, adapted) the basic process used in copy machines (and in laser printers),
he held both a law degree and a technical degree. As a result, he understood
both the strong need for improved means of making copies and several of the
technical processes that might be used to meet this need. Further, once he
decided to try to solve this problem, he restricted his efforts (i.e., search) to
technologies and processes he understood well. 59 By focusing on processes for
which he already had well-developed prototypes and exemplars, he enhanced
his own ability to perceive the emergent pattern that suggested to him an
effective way of making dry, permanent copies. In a sense, he possessed the
cognitive frameworks necessary for combining various technological advances,
changes in the nature of business, and other trends, and the result was a product
that has revolutionized office routines-not to mention education and many
other fields. In other words, a pattern recognition perspective suggests that
specifie individuals recognize particular opportunities because they possess
cognitive frameworks useful for doing so-they have the "cognitive equip-
ment" needed for recognizing these opportunities, while other people do not.

at
1/J l3e l3etû4
learning
objective
8
Describe various ways
Now for another key question: "Can individuals be trained to be more in which entrepreneurs
successful at recognizing opportunities?" Sad to report, there is a widespread can be trained to be
belief that this is not possible, that sorne people are simply blessed with the gift better at recognizing
of recognizing opportunities while others are not, and little can be clone to opportunities.
change this state of affairs. In sharp contrast to this view, a pattern recognition
perspective suggests that in fact, individuals can learn to be more proficient at
recognizing opportunities. Further, this perspective suggests specifie steps that
can be helpful in this respect.
First and foremost, the "connect the dots" perspective we have just
described suggests that individuals can be trained to be more proficient at
recognizing opportunities by teaching them not merely to be alert to
opportunities or to search actively for them, but rather, to search in the best
 92 PART 1 Entrepreneurship: Who, What, Why?
Exposure to a Broad Range
of Business Experience
learning to Search in the Best
Places (e.g., f6cusing on
changes in technology
demographies, markets, etc.)
learning ta Search in the
Best Ways (e.g., seeking
emergent patterns)
Exposure to o Brood Range
of Business OpfX>rlvnities
Figure 3.16
Training Entrepreneurs to be
Better at Recognizing
Opportunities
Con entrepreneurs be trained
to be better at recognizing
opportunities? Growing evidence
suggests thot they con, and thot
the steps shawn here con be
helpful in this respect.
·r
places and in the best ways. Specifically, they should
focus their efforts on identifying changes in technology,
demographies, markets, and other pertinent factors that
are the source of many opportunities. Second, while
engaging in such carefully focused searches, they should
also actively seek to identify ways in which the changes
or trends they notice are linked or connected; in other
words, they should search for emergent patterns. A
pattern recognition perspective suggests that noticing
such patterns is often a key initial step in the process of
identifying new business opportunities. Basic research
on pattern recognition and recent research in the field of
entrepreneurship combine to suggest that individuals
canin fact learn to notice such patterns. 60 To the extent
they do, their ability to recognize new business
opportunities will be enhanced. 61
Second, a pattern recognition perspective also suggests that entrepreneurs'
ability to recognize opportunities can be enhanced by providing them with a
very broad range of experience. The broader this experience (e.g., the wider the
range of positions held, the greater the number of different industries), the richer
will the cognitive frameworks they possess be, and hence, the more likely the
entrepreneurs will be to perceive connections between seemingly unrelated
events or trends, especially connections that are not immediately apparent to
any casual observer. Research findings offer strong support for this possibility:
Entrepreneurs with grea ter experience and knowledge show grea ter effectiveness
at identifying opportunities than those with less experience and knowledge. 62
Finally, exposing individuals to a wide range of business opportunities
that vary greatly in quality might also prove beneficiai. The richer and more
complete the set of such examples individuals have in memory, the more fully
developed their prototypes and other cognitive frameworks will be, and hence
the more effective in identifying emerging opportunities. (See Figure 3.16 for a
summary of these suggestions.)
Overall, then, a "connect the dots" perspective on opportunity recognition
is quite optimistic: lt suggests that entrepreneurs can learn, through appro-
priate training, to be more adept at this task, which, in turn, can have
important beneficiai effects for current or would-be entrepreneurs.
 1. Hi.\ l ' T 1.:. , Cognitive Foundations of Entrepreneurship: Creativity and Opportunity Recognition 93

Cognitive processes provide the foundation
for creativity and opportunity recognition.
Memory involves cognitive systems for
storing information. Working memory can
retain limited amounts of information for
short periods of time. Long-term memory
holds vast (perhaps unlimited) amounts of
information for long periods of time.
Such information can be factual in nature
and relatively easy ta express verbally, or
procedural, in which case expressing it in
words is much more difficult.
Because our capacity ta process infor-
mation is limited, we often adopt short-
cuts ta reduce mental effort. These
include heuristics and various "tilts" in
our thinking (e.g., the confirmation bias).
These shortcuts do save effort, but can
lead ta serious errors.
Among these shortcuts one of the most
dangerous for entrepreneurs is sunk costs
(escalation of commitment)-a tendency ta
stick with decisions that yield increasingly
negative results.
Creativity involves producing ideas that
are bath novel and appropriate.
broad and rich knowledge base, appropri-
ate style of thinking, etc.).
ln the past, opportunities have been
viewed primarily in economie terms. This
perspective is reasonable, but largely
ignores such questions as how the pro-
cess of opportunity recognition actually
occurs, and why sorne individuals are
better at it than others.
A cognitive perspective addresses these
and other questions. lt suggests, for
instance, that information-access ta it
and the capacity ta utilize it-plays a
crucial raie in opportunity recognition.
A large body of evidence suggests that
opportunity recognition is strongly
affected by active searches for opportu-
nities, alertness ta them, prior knowledge
of an industry or business, and the
breadth of social networks.
Growing evidence suggests that opportu-
nity recognition is closely related ta pattern
recognition-a cognitive process focused
on recognition of connections betyveen
seemingly independent events and the
patterns the connections suggest.

Existing evidence suggests that creative A pattern recognition perspective helps

thought emerges from the combination
and expansion of concepts, and from
reasoning by analogy.
Ta be creative and succeed, entrepre-
neurs need successful intelligence-a
good balance of analytic, practical, and
creative intelligence. They also need a
high degree of social intelligence-the
ability ta get along weil with others.
The confluence approach ta creativity sug-
gests that it emerges out a convergence
of severa! factors (intellectual abilities, a
explain why sorne people but not others
recognize specifie patterns, and also
suggests various ways in which entrepre-
neurs can be trained ta be more proficient
at this task.
Current or would-be entrepreneurs can
take severa! steps ta increase their own
ability ta recognize valuable opportunities:
building a broad, rich, and organized know-
ledge base; increasing access ta informa-
tion; actively searching for opportunities;
and increasing practical intelligence.

Concepts: Categories for abjects or events that are
somehow similar to each other in certain respects.
Confluence Approach: A view suggesting that creativity
emerges out of the confluence (i.e., convergence) of
several basic resources.
Creativity: The generation of ideas that are bath novel
(original, unexpected) and appropriate or useful-
they meet relevant constraints.
Entrepreneurial Alertness: A theory suggesting that en-
trepreneurs, and especially successful ones, possess
a schema (mental framework) that assists them in
being alert to and therefore able to recognize
opportunities.
Heuristics: Simple rules for making complex decisions
or drawing inferences in a rapid and seemingly
effortless manner.
Human Cognition: The mental processes through which
we acquire information, enter it into storage, trans-
form it, and use it to accomplish a wide range of
tasks.
94 PART 1 Entrepreneurship: Who, What, Why?
ldea Generation: The production of ideas for something
new; similar in mean.ing to crentivitlj.
Intelligence: b1ctividuals' abilities to understand com-
plex ideas, adapt effectively to the world around
them, Jean1 from experience, engage in various forms
of reasoning, and overcome a wide range of obstacles.
Memory: Our cognitive systems for storing and
retrieving information.
Opportunity Recognition: The process through which
individuals conclude that they have identified the
potential to create something new that has the
capacity to generate economie value (i.e., potential
future profits).
Pattern Recognition: A basic cognitive process that
involves noticing meaningful patterns in complex
events, trends, or changes, and indudes (1) recog-
nizing links between trends, changes, and event
that seem, at first glanee, to be unconnected, and
1. Is it important for successful entrepreneurs
to have good working memory? Why or wh y not?
2. Yom f.riend wants to start a business marketing
and selling his own invention which is costly to
produce and has not been market-tested. He is
convinced that tl1is product will be successful,
but does not have a pla11 to address potential
pitfalls. What l<ind of bias might be affecting your
friend?
3. Repeat entrepreneurs-people who start one
successful venture after another-seem to have
a knack for recognizing good opportunities. Do
you think they may have better prototypes for
opportunities than other people? If so, how did
they acguire them?
What ls Y our Prototype for an "Opportunity"?
In our discussion of opportunity recognition, we
suggested that individuals may possess prototypes
for opportunities. In other words, we have mental
representations that capture the essence of what we
believe "opportunities" to be. To the extent this idea
is true, then one reason why sorne people may be
better at recognizing opportunities is that they pos-
sess clearer or better-developed prototypes with
which to compare potential opportunities.
What is your prototype of an opportunity like? To
find out, follow these steps:
(2) noticing that these connections form an identi-
fiable pattern.
Perception: Active efforts to organize and interpret
information brought to us by our five senses.
Practicallntelligence: Bei.ng intelligent in a practical sen-
se ru1d adept at solving the problems of everyday
life; "street smarts."
Prototypes: Idealized representations of the most typ-
ical membel· of a category that represent the modal
or most freguently experienced eombination of
attribu tes associated wifh an abject o,t· pattern.
Successful Intelligence: A balanced blend of analytic,
creative, a11d practical intelligence needed by
entrepreneurs.
Sunk Costs or Escalation of Comm itment: The tendency
to become trapped in bad decisions and stick to
them even though they yield increasingly negative
results.
4. Can you think of people you know who are high
in analytic intelligence (the kind measured by
IQ tests) but low in practical intelligence? What
about the opposite pattern-do you know people
high in practical intelligence but low in analytic
intelligence? Which would make better entrepre-
neurs? Why?
5. In your opinion, do opportunities exist "out
there" in the external world, or are they purely
a construction of human thought? Why?
6. Have you ever been trapped in "mental ruts"-
forced by your own experience and training to
view a situation or problem in a way that blocked
your creativity? If so, what should you have done
to escape from this kind of cognitive trap?
1. List the features you th:ink are required for some-
thLng to qualify as a business op-portunity.
Œlint: These might include newness, feasibility,
etc.)
a. Feature:
b. Feature:
c. Feature:
d. Feature:
e. Feature:
(Continue with others if necessary.)
 CHAPfER Cognitive Foundations of Entrepreneurship: Creativity and Opportunity Recognition
2. Now, rate how central you think each of these
features is-in other words, how important is
each feature you listed for recognizing an oppor-
tunity? Make this rating by assigning a number
from 1 to 5 to each feature, where 5 = highly
central and 1 = not very central.
3. Next, ask several of your friends to carry out the
same steps. To what extent did you list the same
or similar features? To what extent did you rate
Learning to Connect the Dots: Noticing
Connections As a Key Step in Opportunity
Recognition
Growing evidence indicates that success in recogniz-
ing opportunities for new ventures involves noticing
connections between seemingly unrelated events,
trends, or changes such as advances in technology,
shifts in markets or demographies, and alterations in
government policies. These connections, once noticed,
often point to new products or services that can form
the basis for new ventures. The following exercise is
designed to give you practice in successfully perform-
ing these activities-practice in "connecting the dots"
as a key step in recognizing opportunities.
1. Where Should You Look?
Begin by identifying recent trends or changes in the
following areas. (A few sample questions you might
ask yourself are included for each.) Identify trends or
changes you notice in each of the following areas.
1. Technology: What's new and impressive?
2. Government policies: Has the government
changed its position on various products, mar-
kets? Made any changes in taxes or regulations
that are especially important?
3. Markets: Are there emerging markets you notice?
Changed economie conditions that make it harder
or easier to start a business?
4. Demographies: What's happening to the popula-
tion? Is it aging? Growing more diverse? What
segments are growing most rapidly?
Practical Techniques for lncreasing
Opportunity Recognition
Although learning to search for patterns in a wide
array of changes (e.g., advances in technology, shifts
in demographies) can be a useful technique for
identifying opportunities, it is not the only thing
that can be helpful in this respect. Here are sorne
other steps you can take to enhance your own ability
to recognize potentially valuable opportunities.
95
them the same in terms of their centrality to the
idea of "opportunity"?
4. If you can, find an actual entrepreneur and ask her
or him to do the same thing. Then, compare this
person's list of features to yours and to those
produced by your friends.
5. Do you think the list of features you compiled can
be helpful to you in identifying opportunities for
new ventures in the future?
II. Do You Notice Any Connections?
Now, ask yourself this question: "Are the trends,
changes, or events you've noticed related in any
way?" For instance, does sorne technological change
suggest a new way of meeting the needs of an
emerging market, or a demographie group increasing
in numbers? Do government policies make it easier to
serve such markets? To develop certain kinds of
businesses? Describe the connections you have no-
ticed in the following space.
III. New Products or Services Suggested by
These Connections?
Now for the most important task: Carefully consider
the patterns you noticed and ask yourself, "Do they
suggest new products, services, markets, means of
production, or anything else that could be the basis for
a new business? Describe them here.
Congratulations! You just used a "connect the
dots" approach to recognize what we hope are
outstanding opportunities you can develop at sorne
point in the future.
Consider them carefully and then indicate how you
would put them into practice in your own life.
Build a broad and rich knowledge base. The
capacity to recognize opportunities, like creativ-
ity, depends, in large measure on how much
information you have at your disposai. The more
you possess, the more likely you are to recognize
the connections and patterns that consti-
tute opportunities before others do so. So do
96 PART 1 Entrepreneurship: Who, What, Why?
everything you can to learn all that you can,
whenever you can; the result will be an enhanced
capacity to recognize opportunities.
Steps you can take to increase your own knowl-
edge base: (Hint: What courses or special training
you should consider taking? Jobs that give you
experience and knowledge you don't now have?
Describe these and other steps here.)
Organize your knowledge. Knowledge that is
organized is much more useful than knowledge
that is not. As you acquire new information, you
should actively seek to relate it to what you know
so that connections between existing and new
information come clearly into focus. Information
that is connected and organized in this manner is
easier to remember-and to use-than informa-
tion that it is not.
Steps you can take to organize the knowledge
that you have more systematically and logically:
(Hint: When you learn something new, do you try
to relate it to information and knowledge you
already have? Describe this and other steps you
can take here.)
Increase your access to information. The more
information that is potentially related to
case ree
Cognitive Foundations of Entrepreneurship: Creativity
and Opportunity Recognition
NearSpace, located in Northern California, specializes in
tools for putting facility maps on mobile deviees. Intel
uses the company's technology to map its corporate
campuses, and it's been applied to a variety of other
applications where navigating indoor spaces, such as
trade shows and hospitals, is a challenge.
The venture was founded by veterans of Autodesk,
the computer-aided design tools company, who saw a
opportunities you receive on a regular basis, the
more likely you are to recognize opportunities as
they emerge. You can build your ability to
recognize opportunities by holding jobs that put
you on "the cutting edge" (e.g., jobs in research
and development or marketing), by building a
large social network, and by having rich and
diverse job-and life---experiences.
Steps you can take to increase your access to
knowledge: (Hint: Can you increase the breadth
of your social network? Read a wider range of
magazines, including ones related to your field?
Describe these and other steps here.)
1
Build your practical intelligence. Entrepreneurs
are sometimes accused of being "dreamers"-
people who think so large that they lose touch
with reality. In fact, this assumption is far from
the truth. They are usually just the opposite-
people high in practical intelligence who are good
at solving the highly varied problems of everyday
life. Practical intelligence is definitely not set in
stone-it can be developed.
Steps you can take to increase your own prac-
tical intelligence: (Hint: Do you routinely accept
solutions to problems suggested by "mental
ruts" -the ways in which most people think
most of the time? Can you change this routine?
Describe this and other steps you can take.)
niche to till in taking the sorts of architectural maps
Autodesk products create, and translating them into
simple models suited to viewing and manipulating on
even minimally capable mobile deviees.
Creighton Hoke is NearSpace's CEO and says that
the company came into being for four reasons:
"First, 1wanted to build a company. Over the years, 1
realized that building useful things-first homes, then fine
 CHAPTER 3 Cognitive Foundations of Entrepreneurship: Creativity and Opportunity Recognition
furniture, then software, and finally products and the
teams that created those products-was what 1 liked to
do, and what 1 seemed to be pretty good at doing. 1also
found that 1 liked to work 'close to the metal'-close
enough to feel the heat of creation itself, to participate in
the struggle, and get a physical sense of the effort. So,
while 1 didn't mind operating within a larger organization,
and at a senior level, 1 also craved the immediacy of
conceiving and bringing into being something new and
useful. Seing directly involved in building a new company
made a certain kind of sense! (Of course, unless the
business finds you, it helps to be confident enough-or
arrogant, or foolish enough-to imagine that you can make
ali of this come together in a business or organization that
you create.)
"Second, 1 liked to think about big trends-bath
social and technological-and how they might shape and
support the effort to create something new.
"Third, 1 was intrigued by the power of maps to
convey extremely rich information in a very compact
format-and, in more general terms, by the power of what
are called 'geographie information systems' to link and
contextualize ali kinds of information, using location,
geographie space, as a kind of axis or index for that
information.
"And finally, 1 was able to convince a few talented,
experienced, and (as it turned out) exceptionally stubborn
people to help me try to realize the idea that became
NearSpace."
Hoke says that the idea for NearSpace's technology
came in the form of severa! "Aha!" moments:
"The first 'Aha!' moment came when 1 found myself
sitting in a presentation at Comdex, in Las Vegas.
Looking around, 1 realized that the majority of people in
the room almost certainly had only the vaguest idea
where they were in relation to other events or exhibits that
might be ofinterest to them; where those exhibitors or
events could be fou nd amongst the thousands of meeting
rooms and exhibitors' booths; where they might find the
nearest restaurant, or restroom, or the bus that would
take them back to their hotel. ln theory, ali of this
information was available to them-online, if they could
get to it, or scattered amongst the pages of the printed
show guide-but, in practice, they were at a loss.
Furthermore, this had real costs, not only to them (and
to the companies footing the bill for them to attend), but
also for the exhibitors who spent so heavily on exhibit
space.
97
"Thinking it through, it became clear that the
information this audience needed in order to be more
comfortable and efficient could be delivered much more
effectively on the mobile deviees they were already
carrying. We could link maps, floor plans, schedules,
session and exhibitor information in an easy-to-use, easy
to query, interactive application that would solve what
seemed to be a real problem: how to be effective,
efficient, and more relaxed in a large, complex environ-
ment like the convention centers of Las Vegas.
"Additional 'Aha!'s followed: We noticed that millions
of people transit ali kinds of complex, information-intense
environments (airports, hotels, hospitals, corporate and
university campuses) every day, for a whole range of
purposes. And we saw that the existing crop of mapping,
or location-based services stopped at the entrances to
these places.
"The idea for NearSpace that emerged was simple:
the world 'outdoors'-the world of roads and highways,
street addresses and ZIP codes-is already tully de-
scribed by low-cost map data, navigable using GPS
(global positioning system), and crowded with vendors of
'Location-Based Services' (LBS) that depend on this
information.
"But a// of these services were (and remain, today!)
inherently limited. They bring you to the entrance of your
destination but no further; they provide information about
the journey, but not about the destination. Meanwhile, the
majority of work, commerce, and recreation occurs inside
those destinations.
"We called those destinations 'The Great lndoors,'
and saw the millions of people that work, shop, and play
there on a daily basis as the market that NearSpace
would be designed to serve. The size, complexity, and
constant change in the Great lndoors (wherever it is
found) make it difficult to get work done efficiently,
especially for people who are on the move. ln tact, mobile
workers in these spaces are eut off from the information
they need to work effectively. That doesn't need to be the
case. The information surrounds them, if only they could
get to it. NearSpace would help them."
The company was launched with modest angel and
founder funding, and has been realizing modest revenues
from paying customers. lt's been slow slogging at times
(and it may be a good thing for Hoke to have recruited
"stubborn" co-conspirators in his venture). But the
company is moving forward, with expanding markets in
"The Great lndoors."
98 PAR'I ·1 Entrepreneursh ip: Who, What , Why?
The terrorist attacks of September 11, 2001,
significantly changed the market for technology to map
and understand complex urban environments. While
there had always been an interest in mapping and
geographie information systems (GIS) for city planning,
dispatching, etc., the "first responder"-police, fire,
EMTs called to deal with a disaster, be it natural or
man-made-is interested in new tools. NearSpace is
seeking SBIR funding (see Chapter 6) from government
agencies to bootstrap its technologies into those and
military markets as weil.
l'lote y
1 Matlin, M.W. (2002). Cognition, 5th ed. Fort Worth, TX:
Harcourt College Publishers.
2 Talmi, D., Grady, C.L., Goshen-Gottstein, Y., & Moscov-
oitch, M. (2005). Neuroimaging the serial position curve.
Psycllological Science, 16, 716-723.
3 Shepherd, D.A., & DeTienne, D.R. (2001). Discovery of
opportunities: Anomalies, accumulation and alertness.
In W.D. Bygrave (Eds.) et al. , Frontiers of Entrepreneurship
Research (pp. 138-148). Babson Park, MA: Center for
Entrepreneurial Studies.
4 Zacharakis, A.L., & Shepherd, D.A.2001. The nature of
information and overconfidence on venture capitalists'
decision making. Journal of Business Venturing, 16, 311-322.
5 See note 4.
6 Baron, R.A. (2004). Cognitive mechanisms in entrepre-
neurship: Why and when entrepreneurs think differ-
ently than other people. Journal of Business Venturing, 13,
275-294.
7 Rothman, A.J., & Bardin, C.D. (1997) . Differentiai use of
the availability heuristic in social jud gment. Personality
nnd Socin/ Bulletin, 23, 123-138.
8 Kunda, Z. (1999). Socin/ Cognition: Making Sense of People.
Cambridge, MA: MIT Press.
9 Busenitz, L. W . & Barney, J. B.1997. Differences between
entrepreneurs and managers in large organizations:
Biases and heuristics in strategie decision-making.
Journal of Business Venturing, 12, 9-30.
10 Forbes, D.P. (2005) . Are sorne entrepreneurs more
overconfident than others? Journal of Business Ventur-
ing, 20, 623-640.
11 Krueger, N.F. Jr., (2003). The cognitive psychology of
entrepreneurship. In Z. Acs & D.B. Audrestsch,(Eds.),
Handbook of Entrepreneurial Research. London: Kluwer
Law International.
12 See note 4.
13 Simon, M., Houghton, S.M., & Aquino, K. (2000).
Cognitive biases, risk p erception, and venture forma-
tion: How individuals decide to start companies. Journal
of Business Venturing, 15, 113-134.
Questions
1. NearSpace was inspired by some "Aha!" realizations
by Hoke and his cofounde rs. ls entrepreneuring
always a matter of precipitous discovery?
2. Have you personally had "Aha!" moments that might
inspire an entrepreneurial business? What's needed,
beyond such flashes of insight, for an entrepreneurial
venture to arise?
3. What about Creighton Hoke suggests he might
make a good entrepreneur?
14 Ross, J., & Staw, B.M. (1993). Organizational escalation
and exit: Lessons from the Shoreham nuclear power
plant. Academy of Management Journal, 36, 701-732.
15 Ward, T.B. (2004). Cognition, creativity, and entrepre-
nem shi p. Journal of Business Venturing, 19, 173-188.
16 Sternberg, R.J., & Grigor.oenko, E.L. (2000). Practical
Intelligence in Everyday Life. New York: Cambridge
University Press.
17 Ste rnberg, R.J. (Ed.) (1999). The Nature of Cognition.
Cambridge, MA: MIT Press.
18 Sternberg, R.J. (2004). Successful intelligence as a basis
for entrepreneurship. Journal of Business Venturing, 19,
189-201.
19 Baron, R.A., & Markman, G.D. (2000). Beyond social
capital: The role of social skills in entrepreneurs' success.
Academy of Management Executives, 14, 106-116.
20 See note 14.
21 Sternberg, R.J., & Lubart, T.I. (1995). Deft;ing the Crowd:
Cultivating Creativity in a Culture of Conformity. New
York: Free Press .
22 See note 20.
23 Shane, S. (2003). The Individual-Opportunity Nexus Ap-
proach to Entrepreneurship. Aldershot, United Kingdom:
Eward Elgar.
24 Lerner, M., & Hendeles, Y. (1993). New entrepreneurs
and entrepreneurial aspirations among immigrants from
the former USSR in Israel. InN. Churchill, S. Bir.ley, W.
Bygrave, J. Coutriaux, E. Gatewood, F. Hoy, & W.
Wetzel (Eds.), Frontiers of Entrepreneurship Research.
Babson Park: 'Babson College.
25 Ozgen, E., & Baron, R.A. (In press). Social sources of
information in opportunity recognition: Effects of
mentors, industry networks, and professional forums.
Journal of Business Venturing.
26 Klepper, S., & Sleeper, S. (2000). Entry by spinoffs.
Working paper, Carnegie Mellon University.
27 Durand, R., & Coeurderoy, R. (2001). Age, order of entry,
strategie orientation, and organizational performance.
Journal of Business Venturing, 16, 471-494.
 Cognitive Foundations of Entrepreneurship: Creativity and Opportunity Recognition
28 Dollinger, M.J. (2003). Entrepreneurship, 3rd ed. Upper
Saddle River, NJ: Prentice Hall.
29 McMullen, J.S., & Shepherd, D.A. (2006). Entrepreneur-
ial action and the role of uncertainty in the theory of
the entrepreneurs. Academy of Management Review, 31,
132-152.
30 Shane, S. (2000). Prior knowledge and the discovery of
entrepreneurial opportunities. Organizational Science,
11 (4), 448-469,
31 Ardichvili, A., Cardozo, R., & Ray, S. (2003). A theory
of entrepreneurial opportunity identification and
development. Journal of Business Venturing, 18, 105-123.
32 See note 10.
33 See note 22.
34 Blanchflower, D., & Oswald, A. (1998). What makes an
entrepreneur? ]oumnl of ù1bor Economies, 16, 26-60.
35 Ald rich, H. (1 999) . Orgnnizntions Evolving . London: Sage.
36 See note 22
3? See note 22.
38 Van Praag, C., & Cramer, J. (2001). The roots of
entrepreneurship and labour demand: Individual ability
and low risk aversion. Economica, February, 45-62.
39 See note 17.
40 Kirton, M. J. (2003). Adaption-Innovation: In the Context of
Diversity tl/Id Chflnge. New York: Routledge.
41 Kaish, S., & Gilad, B. (1991). Characteristics of opportu-
nities search or entrepreneurs versus executives:
Sources, interests, general alertness. Journal of Business
Venturing, 6, 45-61.
42 Hills, G.E., & Shrader, R.C. (1998). Successful entrepre-
neurs' insights into opportunity recognition. In P.D.
Reynolds et al., (Eds.) Frontiers of Entrepreneurship
Research (pp. 30-43). Wellsley, MA: Babson College.
43 Fiet, J.O., Clause, V.G.H., & Norton, W.I. Jr. (2004).
Systematic search by repeat entrepreneurs. In J.E. Butler
(Ed.), Opportunity Identification and Entrepreneurial
Behavior (pp. 1-27). Greenwich, CT: Information Age
Publishing.
44 See note 20.
45 See note 40.
46 Kirzner, LM. (1985). Discovery and the Capitalist Process.
Chicago: University of Chicago Press.
47 See note 10.
48 De Wit, G. (1993). Models of self-employment in a
competitive market. Journal of Economie Surveys, 7, 367-
397; Van Praag, C., & Cramer, J. (2001). The roots of
entrepreneurship and labour demand: Individual ability
and low risk aversion. Economica, 68, 45-62.
99
49 Vesalainen, J., & Pihkala, T. (1999). Motivation structure
and entrepreneurial intentions. In P. Reyonds, W.
Bygrave, S. Manigart, C. Mason, G. Meyer, H. Sapienza,
& K. Shaver (Eds.), Frontiers of Entrepreneurship Research
(pp. 73-87). Babson Park, MA: Babson College.
50 Krueger, N.J., & Brazeal, D.H. (1994). Entrepreneurial
potential and potential entrepreneurs. Entrepreneurship
Theory and Practice, 19, 91-104.
51 Stewart, W.H., & Roth, P.L. (2001). Risk propensity
differences between entrepreneurs and managers: A
meta-analytic review. Journal of Applied Psycho/ogy, 86,
145-153.
52 See note 30.
53 McKelvie, A., & Wiklund, J. (2004). How knowledge
affects opportunity discovery and exploitation among
new ventures in dynamic markets. In J.E. Butler (Ed.),
Opportunity Identification and Entrepreneurial Behavior
(pp. 219-239). Green wich, CT: Information Age Publishing.
54 Hills, G., Lumpkin, G.T., & Singh, R.P. (1997). Opportu-
nity recognition: Perception and behavior of entrepre-
neurs. Frontiers of Entrepreneurship Research (pp. 203-218).
Wellesley, MA: Babson College.
55 See note 25.
56 Baron, R.A. (2006). Opportunity recognition as pattern
recognition: How entrepreneurs "connect the dots" to
identify new business opportunities. Academy of Manage-
ment Perspectives, 20, 104-119.
57 Baron, R.A., & Ensley, M.D. (2006). Opportunity recog-
nition as the detection of meaningful patterns: Evidence
from comparisons of novice and experienced entrepre-
neurs. Management Science, 52, 1331-1344.
58 Baron, R.A. (In press). Opportunity recognition as
pattern recognition: How entrepreneurs "connect the
dots" to identify new business opportunities. Academy of
Management Perspectives.
59 Zannos, S.C. (2005). Chester Carlson and the Development of
Xerography. New York: Mitchell Lane Publishing.
60 Fiet, J.O., & Migliore, P.J. (2001). The testing of a mode! of
entrepreneurial discovery by aspiring entrepreneurs. In
W.D. Bygrave et al. (Eds.), Frontiers of Entrepreneurship
Research, pp. 1-12. Babson Park, MA: Center for
Entrepreneurial Studies.
61 Ward, T.B., Patterson, M.J., & Sifonis, C. (In press). The
role of specificity and abreaction in creative idea
generation. Creative Research Journal.
62 See note 3.