Why So Many New Companies Fail During Their First Five Years
Business Journal

Why So Many New Companies Fail During Their First Five Years

A Q&A with Sangeeta Badal, Ph.D., Senior Researcher, Entrepreneurship, at Gallup

Our research shows how important it is to understand and measure the individual's role in driving business performance.

About 50% of new U.S. companies fail in their first five years. Five years of work, money, and hope -- and it all just disappears, five times out of 10.

There's a particular reason for every entrepreneurial failure, and sometimes many of them: Entrepreneurs run out of money, the market changes, supply chains fall apart or the regulatory system makes it too hard to run a profitable enterprise. Those are all valid reasons, but here's one reason we rarely hear: The entrepreneur just didn't have the talent for the job.

It sounds harsh, but Gallup research finds that the success of a new business has a lot to do with the person starting that business. Such is the finding of an extensive Gallup study of 4,000 entrepreneurs in the U.S., Mexico and Germany.

The research uncovered that the best share 10 common traits. Sangeeta Bharadwaj Badal, Ph.D., Gallup senior consultant and lead researcher in entrepreneurship, discusses her research -- and the impact entrepreneurs have on a struggling global economy -- in this conversation.

Gallup: There's no shortage of books about entrepreneurs. Why does the world need another one?

Sangeeta Badal, Ph.D: Over the last 30 to 40 years, we saw unprecedented economic growth all across the world. We saw the rise of the middle class, better living standards and reduction in poverty. But then we hit a speed bump when the recession started around 2007 and 2008. The developed world is still struggling to get out of the Great Recession, and the developing world still has low GDP, productivity and employment rates. It's just been a very, very slow recovery.

All this led business leaders and researchers worldwide to think about strategies for rekindling growth in economies and in job creation. Gallup's World Poll indicates that people want good quality jobs more than anything else. And a recent report from the World Bank shows that the world needs 600 million new good jobs for economic and societal development worldwide to flourish.

One of the strategies to grow jobs is entrepreneurial activity. Consequently, policymakers are paying considerable attention to the role of startups in economic growth -- but not all startups create jobs. Not all startups even survive. A very miniscule number actually grow fast, hire a lot of people, create a lot of jobs and are sustainable. And that led us to digging for reasons.

I thought we knew all this; again, there are many books about startups.

Dr. Badal: But most of the reasons we hear about are external: When businesses fail or startup rates decline, it's because of the industry type or the type of economy, or it's lack of financing, or it's flawed government policies or it's the demographic composition of a particular country or region. Those reasons, it's assumed, determine whether entrepreneurial activity in a particular place is high, average or low.

One thing that's missing in this discussion is the attributes of the individual -- the person who is at the center of a company, making day-to-day decisions for running the business, in highly uncertain circumstances, without full information. That piece of information -- what drives individual entrepreneurial activity -- is either completely missing from the conversation or basically getting lip service. I think one of the biggest problem is how to scientifically measure and capture the role of the entrepreneur.

Conventional wisdom suggests that if you work hard enough, your new business will succeed.

Dr. Badal: That conventional thought process is still very much in existence. Many experts do believe that you can take anyone and make that person into a super-successful entrepreneur. Unfortunately, that's really not the case. Providing someone with training and support can ignite whatever entrepreneurial capacity the individual has, but it cannot make the person creative or turn him or her into a risk-taker or into an achievement-oriented person. This is where the psychology of the entrepreneur becomes critically important. And our research shows that talent, a composite of personality traits and intellectual ability, can explain variance in business performance over and above ecological factors.

Because while 80% of companies fail, 20% succeed in the same business climate, so the difference is the entrepreneur, right?

Dr. Badal: The entrepreneur's role is very, very important. Gallup has a huge history in understanding the role of the individual in driving business outcomes. So understanding the talents that a person brings to an endeavor and how that drives a higher level of performance and mastery in that domain is Gallup's sweet spot.

Gallup's understanding of individual differences led us to develop the Entrepreneurial Profile 10, a psychometric tool that scientifically assesses the role of the individual in entrepreneurship. Once measured, we can provide developmental feedback, coaching, and other support, education, and mentorship to the individual.

How did you do the research?

Dr. Badal: This project began in Germany with an organization that was deeply interested in identifying entrepreneurial talent in the Baden-Wurttemberg region. Then we went on to study more than 4,000 entrepreneurs in the U.S. and Mexico. Eventually we pulled all the data together and identified the common behaviors exhibited by successful entrepreneurs -- the talents that lead to the creation of companies and, in turn, the creation of sustainable jobs.

Our latest research with a nationally representative sample of entrepreneurs in the U.S. indicates that after controlling for the age of the business, exceptionally talented entrepreneurs (top 2%) have significant differences in performance from the rest of the entrepreneurs. They are seven times more likely to have a business worth more than $10 million, compared with the rest, and they are five times more likely to increase their employee base by 5% or higher -- in other words, to create jobs. They are also four times more likely to say that they have plans to grow their business significantly, three times more likely to exceed sales goals and twice as likely to exceed profit goals as their less-talented peers.

In 2013, venture capitalists invested $30 billion in startups, while 40% of VC-backed companies failed and 40% failed to provide a return. Though anyone can take the assessment, it seems to me some people really should.

Dr. Badal: I would agree. Usually investors make their decisions based on instincts and studying past history, which is limited for startups and early-stage businesses. What we would suggest is to augment that feeling or instinct with scientifically identified traits for successful business building. Use the results of the Entrepreneurial Profile 10 assessment to identify, support and develop high-potential business builders.

-- Interviewed by Jennifer Robison

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