Part One: Unique Characteristics and Roles of Entrepreneurial Growth Companies

The past decade has marked a period of tremendous growth for EGCs and the founders who make them thrive. Not since the days of Edison, Ford, and the railroad barons have entrepreneurs, inventors, and innovators captured the public imagination or dominated the business news so completely. Steve Jobs and Bill Gates are household names. Entrepreneur-oriented magazines such as Fast Company, Red Herring, Wired, Fortune Small Business, Entrepreneur, Success, and Inc. proliferate.

The change is especially noticeable in the choices made by those entering the business world and the institutions that educate them. Top college graduates now often choose promising startups over the choices of an earlier generation: elite graduate programs, prestigious consulting firms like McKinsey & Company, and famous Wall Street firms like Goldman Sachs. From fewer than 25 business schools with courses in entrepreneurship in the early 1990s, there were more than 125 schools with full-blown majors in entrepreneurship at the close of the decade. And in 2000, Harvard Business School replaced its decades-old core curriculum course in “General Management,” with a new course required for all HBS students in “Entrepreneurial Management.”

The economic and societal reasons for the prominence of entrepreneurship are clear. Each year, at least 700,000 new businesses are started in the United States, and a small portion turn out to be the fast-growth companies that propel the economy forward. Each year, this small set of businesses creates a disproportionate share of the new jobs and fuels the economy in numerous other ways. According to one 1988-1992 study, EGCs or “gazelles” made up just 4 percent of all companies but generated 60 percent of the net new jobs. Some economists suggest that EGCs account for roughly 50 percent of the difference in economic growth rates among industrial nations.

In addition to creating new jobs and improving our position in the global economy, entrepreneurship improves our quality of life and helps lift all parts of the American economy. We all benefit from entrepreneurship, not only in large-scale economic benefits and transforming inventions but also in the form of improved products and services: Helicopters. Low-fee brokerages. Contact lenses. Next-day mail. Air conditioning. Superstores. Heart valves. These are all examples of innovations and services that were developed through entrepreneurship. Small entrepreneurs account for more than two out of three innovations since World War II, according to one estimate.

Each year, at least 700,000 new businesses are started in the United States, and a small portion turn out to be the fast-growth companies that propel the economy forward.

Despite the many benefits of this entrepreneur-fueled economic boom and its growing prominence, entrepreneurship remains celebrated but largely unexamined. In the absence of rigorous and systematic academic study, the past and present success of entrepreneurship in the United States is often attributed to ill-defined virtues such as the American “spirit of adventure.” Just as often, the characteristics and behavior of entrepreneurial growth companies are conflated with those of small businesses, which are closely related but differ significantly.

Fueled by simplistic profiles of entrepreneurs in the news, public understanding is understandably focused on the least common – and usually most successful – entrepreneurial efforts. Often when the popular press focuses on an EGC, they portray it as brand new. In fact, most of the companies they write about are beyond start-up and are in the later stages of entrepreneurial growth. What Bhidé and others find is that both the public and policymakers are familiar with these later stages of entrepreneurial growth, but fairly unschooled about the early stages.

This gap in understanding stems partly from the fact that EGCs are markedly different as they evolve over time. Their development is so dramatic and in some cases so quick that few observers have been able to document and distinguish the early stages. As a result, the characteristics of early-stage entrepreneurship are often missed entirely, according to Bhidé – a critical gap in our understanding. While understandable, this knowledge gap creates predictable problems when it comes to developing and maintaining support for entrepreneurs.

EGCs each develop at different rates, and within each EGC there are periods during which certain elements develop at a faster rate while others lag behind. While not all entrepreneurial endeavors fit each and every one of the descriptions and generalizations included here, Bhidé's research provides a useful overview of common features and evolutionary stages of most successful EGCs, as well as dispelling several of the most common myths and misconceptions about entrepreneurship.

While conventional wisdom about entrepreneurship may be misleading in some regards, it's not entirely wrong about the close resemblance of small business and growth companies. There are numerous similarities between most small businesses and entrepreneurial efforts. They both start small and require tremendous energy and adventurousness on the part of their founders. They both serve important economic functions, stimulating the economy and creating new jobs to replace those lost by downsizing in other areas. And most entrepreneurs start with “the same limited means as the typical lawn care or painting business,” according to Bhidé. Small businesses are also an important breeding ground for growth companies and often serve as a key supplier to entrepreneurial endeavors.

Most entrepreneurs start with “the same limited means as the typical lawn care or painting business,” according to Bhidé.

In fact, small businesses and EGCs can be indistinguishable at the start. Who is to say whether the fun new shoe store that just opened its second location is destined to become a successful small business or a national chain of stores? The store could continue to do well with just a few locations, or it could develop a new model or approach to shoe selling that propels it to national prominence. There are countless stories of businesses begun with small or uncertain scope that, somewhere down the line, were transformed into entrepreneurial efforts.

But the key departure point that allows some small businesses to “morph” into EGCs lies in the productivity gains latent in their company's proposed product, service, or distribution scheme.

While calculations of productivity gains can get very technical, essentially they involve evaluations of the entire production and distribution process, as well as the quality of products and services produced, per person or per other resources used. An entrepreneur who can produce a product or service of superior quality, compared with competitors with the same resources, offers a productivity gain. An entrepreneur who produces the same quality product with fewer resources offers a productivity gain. And entrepreneurs who can produce both higher quality and consume fewer resources offer an even greater increase in productivity.

It is this latent productivity improvement in the entrepreneur's product, service, or distribution scheme that makes fast growth possible

It is this latent productivity improvement in the entrepreneur's product, service, or distribution scheme that makes fast growth possible, and thus distinguishes potential EGCs from small businesses that cannot offer productivity gains. But while higher productivity potential makes it possible for an entrepreneur to build a fast-growth company, it certainly does not make it inevitable. Much more is involved.

Most businesses “start small and stay small,” according to Bhidé. On the one hand, the business may not offer any productivity improvement and therefore may have no significant potential for entrepreneurial growth. On the other, even with this potential, the business owner may have limited aspirations. Searching for independence and economic support for family and children, the typical small business founder is not working daily towards the goal of growing the business at a speed that may transform his or her industry sector. If the business prospers and provides a relatively steady stream of income and employment, most small business owners would be satisfied. Limited growth and continued profitability are cause for celebration.

Massive growth may not be the foremost goal of most small business founders, but for the entrepreneurs in EGCs, audacious goals are at the heart of what they are doing.

Massive growth may not be the foremost goal of most small business founders, but for the entrepreneurs in EGCs, audacious goals are at the heart of what they are doing. Right from the start, most successful entrepreneurs aim to create a large, national or multi-national company and intend to do whatever is required to achieve that objective. Whether they eventually succeed or not, this difference marks an entrepreneurial growth company as different from most small businesses, and shapes a whole series of decisions about the type of businesses entrepreneurs tend to start, and how they are run.

What distinguishes an EGC from a small business is this distinctive period of growth. In most cases, the growth period comes right from the start and is part of the initial vision for the company. But in some cases the growth period can come later, or even arrive from out of the blue. Each year, a certain number of small businesses “morph” into entrepreneurial growth companies along the way. A successful pharmaceutical salesman with five years of growing revenues decides to turn his model into a national company. Three years out of college, buddies with a thriving coffee shop business realize that they could go national with their idea. It makes no difference when the growth period happens, but a business becomes dramatically different during and after the growth period.

In that sense, “EGC” is not just a fancy word (or an annoying acronym) for a successful small business. Though the term is often used loosely, being “entrepreneurial” in this case means much more than putting in long hours. Appreciating the difference between a small business before its growth period and once it has become entrepreneurial is perhaps the most important step towards creating effective support for the growth companies.

The productivity gain latent in EGCs and the entrepreneurial desire to create large, high-growth businesses lead to several other key differences. In contrast to most small businesses, growth companies are often clustered around newly deregulated and emerging industry sectors such as telecommunications, financial services, and, most obviously, information technology – where potential productivity gains are enormous. This is in stark contrast to the most popular small business sectors, such as construction, retailing, and cleaning services.

More so than most small businesses, entrepreneurial ventures are particularly uncertain – extremely vulnerable to falling flat. In many cases, entrepreneurial efforts are created in industries where there is no proven business model, and no established network of support. What entrepreneurial efforts do have is the promise – however unlikely – of tremendous returns. Bhidé likens entrepreneurship to a small business “with a lottery ticket attached.”

Appreciating the difference between a small business before its growth period and once it has become entrepreneurial is perhaps the most important step towards creating effective support for the growth companies.

Bhidé also explains that it is this growth without tried and traditional business models that distinguishes innovative EGCs from innovative large corporations. He argues that start-ups typically pursue small (requiring relatively little capital) and highly uncertain (new, unproven) opportunities. In contrast, the Fortune 500 advantage lies in taking on perhaps similarly innovative, but much larger and much less uncertain projects. For example, bootstrapped entrepreneurs help incubate new “disruptive” technologies that at first cannot compete in mainstream markets, can only be sustained in niche markets, and produce early revenue streams too small to interest bigger companies. By pursuing these new, uncertain products and markets, and sometimes employing talented people that do not fit the cultural norms of large corporations, EGCs mitigate the “inflexibility” of long-established, bigger companies. Bhidé concludes that the very different roles played by EGCs and big businesses complement each other and even “reinforce each other in the multi-faceted and protracted process of innovation” in the American economy.²

The growth of Cisco Systems illustrates how a single company can itself make the pilgrimage from a start-up to EGC to big business along the curve that Bhidé's analysis suggests. Sandy Lerner and Len Bosak started Cisco in 1984, persuading friends and family to invest a little money and to work for deferred compensation. They then ran up their credit cards bills to finance the early stages of the company's growth. During this time they were building and selling computer network “routers” in what was then a tiny and totally uncertain marketplace. But they started to turn a profit with the routers they did sell and thus began to prove out the technology, the market, and the business model. In 1987, needing more capital to expand their operations with a growing market, they turned to the Sequoia Funds, a major Silicon Valley venture capital fund. With that investment, they further increased revenues and profits and went public in February of 1990. As the company grew even more, they acquired smaller EGCs that had taken the chance on small, uncertain new products and services and successfully proven out their productive value. Now, 16 years after its founding, Cisco is a big business – the world's leading supplier of routing equipment that links computer networks.

This story of a successful large corporation that was once a lowly start-up, struggled through the growth pains of an EGC, and achieved public company status is of course not the exception, but the rule. In fact, another Commission publication study will document the entrepreneurial origins of virtually all of the 200 largest Fortune 500 companies in 1997.