What are the origins of entrepreneurial capitalism?
Entrepreneurial capitalism is key to the success for entrepreneurship. But few words are as abused in the lexicon of the business world, as ill defined in the management literature, and as open to multiple meanings as entrepreneurship. The concept of entrepreneurship has been in our modern society for thousands of years and in the history of economic study the word has been overused, and in some cases underused.
Definition of entrepreneurial capitalism: private capital, investing in private start-ups, with potential for a viable harvest
Jack Kemp: “Does government create jobs, or do entrepreneurs? Does government spending spur growth, or do lower taxes, less regulation, and spending limits? Can government direct investment better than the private sector? The answers to these questions provide the keys to designing a strategy for long-term growth in America.”
Entrepreneurs, Low Taxes, Create Economic Growth
For nearly every entrepreneur, access to private equity capital, or risk capital, is a key ingredient to successful business growth.
Entrepreneurship, combined with support from venture capital, is a major force driving economic growth in the United States. Thomas McConnell of New Enterprise Associates said, “Venture capital investment is a national phenomenon that helps set the U.S. economy apart from others in the world.” Venture capital financed groundbreaking research and untold improvements in infrastructure and technology. The average venture-backed company employs nearly 100 workers within five years and creates almost twice as many jobs as their nonventure-backed competitors.
Venture capital, risk capital, was perfected in the Reagan era with the help from Jack Kemp. Things changed with President Ronald Reagan’s election in 1980, when the business environment shifted from President Carter’s “Days of Malaise” as the Republicans produced political leaders committed to entrepreneurial capitalism. Their thrust took shape under “supply-side economics,” which was first envisioned by economic adviser Dr. Arthur Laffer. His winning thesis was simply this: Lower the marginal tax rates. He believed that individuals should keep more of their hard-earned money, which would encourage them to make more.
In August 1981, less than seven months after being sworn in, President Reagan signed the Kemp-Roth bill into law. It was the cornerstone of what would become the most successful economic policy for new business venturing in U.S. history. The bill’s treatment of capital gains, a lowering of the top capital gains tax rate from 28 percent to 20 percent, made high risk investments even more attractive, causing a twofold increase in commitments to venture capital funds in 1981.
Entrepreneurs then launched a boom that would last, except for a brief eight months following the Gulf War in 1991, until the end of the twentieth century. It was the longest period of economic expansion in the nation’s history. Between 1983 and 2003, the Dow Jones Industrial average provided an annual return of 11 percent. For comparison, between 1965 and 1983 its annual return was 1 percent.
According to the U.S. Department of Labor Non-Farm Employment Data, the American economy generated over 27 million new jobs between 1980 and 1995. Over 24 million of these new jobs were created by small- and medium-size entrepreneurs operating high-growth ventures. As Dr. Laffer predicted, even Washington, D.C., prospered well, with the U.S. Treasury revenues increasing 28 percent to more than $1 trillion in 1990.
At the closing of the last century, MIT economist Lester Thurow had this to say: “In what will come to be seen as the third industrial revolution, new technological opportunities are creating fortunes faster than ever before. The United States has created more billionaires in the past fifteen years than in its previous history—even correcting for inflation and changes in average per capita gross domestic product.”
Understanding the term: Entrepreneurship
Carl Voigt, dean of the Marshall School of Business at the University of Southern California, explains, “We sort of defined entrepreneurialism too narrowly as someone who wants to start their own business. But entrepreneurialism can also mean finding new business opportunities and expansion at existing companies.”
Starting with practically nothing, an entrepreneur is one who organizes a new venture, manages it, and assumes the associated risk. The term entrepreneur is broadly defined to include business owners, innovators, and executives in need of capital to start a new project, introducing a new product, or expanding a promising line of business.
We include technology transfer experts, technologists at leading universities, and consultants and advisors assisting in all aspects of venturing. An entrepreneur’s principal objectives are profit and growth, and they will employ formal strategic management practices to achieve them.
Types of Entrepreneurs
We use a broader definition and scope of entrepreneurial activity, segmenting all entrepreneurial activity into seven types of entrepreneurs: small business and lifestyle, franchise, professional fast growth and serial, corporate, creative disrupters and innovators, extreme, and social and nonprofit.
1. Small Business, Lifestyle, and Family Entrepreneurs
A small business entrepreneur is an individual who establishes and manages a business for the principal purpose of furthering personal goals. They comprise around 90 percent of all entrepreneurial activity in the United States. The business may overlap with family needs and desires. These ventures merely provide a reasonable lifestyle for the founding entrepreneurs. Their average net worth is less than $6 million, and they choose to stay small.
These “lifestyle ventures” typically fall below 20 percent annual growth rates, their five-year revenue projections are below $10 million, and average net income does not exceed $2 million. Retailing is one of the few sectors where entrepreneurial activity is extensive. Each year, some 60,000 new retail businesses are started. The National Retail Federation in Washington, D.C., reports that 1.3 million retailers or over 95 percent of all retailers own and operate a single store.
2. Franchise Entrepreneurs
Franchising started in the 1840s and became an American institution. One out of sixteen workers is employed at a franchise, and franchising accounts for nearly $1 trillion in retail spending. Franchising is where a franchisor is offering a franchisee exclusive rights in return for their payment of royalties and conformance to standardized operating procedures. Franchising represents a great opportunity for entrepreneurs. An entrepreneur buying into a franchise increases the odds for survival to as much as 90 percent over starting up independently.
There are three basic types: product franchising, like automotive dealerships; service franchising, like Century 21; and business format, like McDonald’s. Since there are some 2,300 franchises to choose from, we suggest reading books like Ann Dugan’s Franchising: The Complete Guide to Evaluating, Buying and Growing Your Franchise Business. Dugan will help you to find the right franchise and to negotiate the franchise lease; it also provides sample franchise agreements.
3. Professional Fast-Growth and Serial Entrepreneurs
Fast-growth ventures have been called “the backbone of the U.S. economy.” Numbering less than 350,000, they create about two-thirds of all new job growth. Professional entrepreneurs lead these ventures, which typically employ between 20 and 500 people, have sales growth of at least 20 percent each year for four straight years, and target five-year revenue projections between $10 and $50 million.
Less than 10 percent of all start-ups make it to this level. As can be expected, it is well documented that these high-growth ventures receive great investor interest. A small business entrepreneur will typically retain 100 percent ownership, since the primary motivation is financial independence and control. In contrast, serial entrepreneurs are comfortable with relinquishing control to “a more traditional chief executive.” They also accept dilution because “taking significant outside investment” allows them to create a big venture very quickly. Basically, the serial entrepreneur creates a venture, builds it up to a certain point, and then walks away to start another.
4. Corporate Entrepreneurs and Intrapreneurs
A driving force for the corporate world is “innovate or die.” As Drucker says, “Any organization that believes that management and entrepreneurship are different, let alone incompatible, will soon find itself out of business.” Entrepreneurship is beneficial for managing established businesses but not easily maintained. Large, mature conservative businesses need entrepreneurial leadership so they can perform the continuous renewal that has become a requirement for survival. For example, managers at 3M have set a long-term objective of achieving double-digit sales growth through innovation.
To survive, companies must “strive for a continuing change in the status quo.” The National Science Foundation estimates that about $300 billion is spent annually on R&D in the United States, leading new opportunity analysis and roadways to entrepreneurial transformation. Microsoft spends almost $5 billion on R&D annually. In 2002 Microsoft began a five-year, $2 billion investment on the Xbox, a “stripped down personal computer in a VCR-sized electronics box” for home gamers. Four veteran game developers led Microsoft’s “Project Midway.” They “were intrapreneurs, doing the same thing as entrepreneurs except inside a big company.”
The concept of corporate entrepreneurship has been around for at least twenty years. Broadly speaking, corporate entrepreneurship (also called intrapreneurship) involves the developing of new business ideas and the birthing of a new business activity within the context of large and established companies.
5. Creative Disrupters and Innovators
Shawn Fanning, the creator of Napster, appeared on the covers of Time, Fortune, and BusinessWeek before he could legally buy a beer. In 1994, John Doerr, a venture capitalist at Kleiner Perkins Caufield & Byers, met a twenty-three-year-old Marc Andreessen, who confidently declared that “his software would change the world.” Their company, Netscape, went on to a record-shattering initial public offering in 1995. Like Edison in search of the electric light bulb, seeing only a better way to illuminate a room, these entrepreneurs are a rare breed, living on the creative edge.
Most often, these brilliant “entrepreneurial-engineers” look to technology to solve problems in ways that “unlock value.” They are visitors from the future, living among us here and now. They have an optimistic passion for an idea that borders on the embarrassing and a restless urge to make a difference in the world. They bring us innovations that will have a deep impact on how we live, work, and think in the decades ahead.
6. Extreme Entrepreneurs
Entrepreneurship is the last frontier where someone can explore individuality and pioneer a dream. In his work Isolated State (1850), German economist Johann Heinrich von Thunen described the entrepreneur as part “explorer and inventor.” Long before America’s Silent Army, Christopher Columbus pitched his dream to Queen Isabella in Seville, Spain. His “discovery” of America in 1492 brought new prosperity to Spain, as it soon became a world economic superpower. John Sutter was even called a “soldier of fortune.”It was near his lumber mill on the American River in California that gold was “discovered” in 1848, about 150 miles from Intel’s headquarters in Santa Clara.
Today’s extreme entrepreneurs are Formula-1 race car drivers, North Atlantic fishermen, lumberjacks, and businessmen like Ted Turner and Richard Branson, the billionaire who started Virgin Records and Virgin Atlantic Airlines. Branson says, “Being an adventurer and entrepreneur are similar. You are willing to go where most people won’t dare.”
7. Social and Nonprofit Entrepreneurs
David Packard, co-founder of Hewlett-Packard, believed that giving to the local community was important. Social and nonprofit entrepreneurs who pursue endeavors for the benefit of society have existed since ancient times. In fact, the word philanthropy is derived from a Greek word that means “lover of mankind.” Today it is believed that entrepreneurism and innovation can also help “spark positive social change.”
The Ewing Marion Kauffman Foundation is doing just that. Currently with over $1 billion in assets, its mission is to make a difference by encouraging entrepreneurship in all areas of American life. The Price Institute for Entrepreneurial Studies works to further the understanding of the entrepreneurial process. By generously providing grants to leading academic institutions, the Institute works to stimulate MBA programs and curricula development, encouraging and supporting students with entrepreneurial aspirations.
Origins of Entrepreneurial Capitalism
To better understand entrepreneurship, it is useful to look back to the early development of capitalism. Capitalism depends on harnessing private motives to produce the goods and services that the public wants as efficiently as possible. Historian Charles Van Doren leads us to the early roots of “primitive capitalism” in his book A History of Knowledge: Past, Present, and Future. He provides insight to the ancient Egyptians, economic life before the peasant, the introduction of the merchant, the king, the rise of the labor markets.
Defined today, capitalism is a political, social, and economic system. It is characterized by the private ownership of property—not only of land and buildings but of patents, know-how, and processes that are used by entrepreneurs to create profits for themselves. Capitalism sharply contrasts with other economic systems, like feudalism and socialism. In capitalism, entrepreneurs are responsible for such economic decisions as what to produce, how much to produce, and what method of production to adopt.
Economist Lester Thurow writes, “Entrepreneurs . . . bring the new technologies and the new concepts into active commercial use. They are the change agents of capitalism.”
The French Connection
The concept of entrepreneur is borrowed from the French words entreprendre, “one who undertakes”—that is, a “manager.” In fact, the word entrepreneur was shaped probably from celui qui entreprend, which is loosely translated as “those who get things done.” In the early eighteenth century, a group of thinkers called the Physiocrats surfaced in France around a school of new economic theory. They were the first proponents of laissez-faire and opposed all government intervention in industry, especially taxation. Their doctrine was that the economic affairs of society are best guided by the decisions of individuals.
One of the most famous among them was Richard Cantillon. In a paper he worked on between 1730 and 1734 and that was later published in 1775 as Essai sur la Nature du Commerce en General, he introduced the concept of entrepreneur. He developed these early theories of the entrepreneur after observing the merchants, farmers, and craftsmen of his time. Jean-Baptiste Say, a French businessman turned economist, followed Cantillon with his Trait d’economie politique in 1803. His work commented on the theory of markets and how the entrepreneur is involved in this transaction of goods for money.
Adam Smith’s Invisible Hand and Pin Production
The economic system based on the capitalism concept was completed by the Scottish economist Adam Smith. Leveraging the work performed earlier by the Physiocrats, and in particular Francois Quesnay, Smith completed his famous book, The Wealth of Nations, in 1776 at the beginning of the Industrial Revolution in Britain. Some believe that his main contribution to economics is centered on free enterprise. Introducing the concepts of liberal capitalism and entrepreneurial capitalism, Smith is “known as an architect of our present system of society.”
Smith concentrated on the growing manufacturing and trade industries. In particular he studied the division of labor in the manufacturing of pins, which was beginning to incorporate new machines. His central argument in The Wealth of Nations is based on the concept of what he called the “invisible hand.” He believed that human self-interest is the basic psychological driver behind economics, and that a natural order in the universe makes all individual, self-interested endeavors add up to the social good. He also studied the competitiveness of nations and multinational trade. His major theoretical achievement was to take the first steps toward a theory of the optimal efficient allocation of resources under conditions of free competition.
Joseph A. Schumpeter and His “Creative Destruction”
Joseph Alois Schumpeter, an Austrian-American economist, was one of the first to study entrepreneurs and the impact of entrepreneurial capitalism on society. As he wrote in The Theory of Economic Development, he believed that innovation and creativeness distinguished entrepreneurs from other businesspeople. He observed that innovation and entrepreneurship are closely interwoven. He argued that the entrepreneur was at the very center of all business activity. He observed that entrepreneurs create “clusters of innovations” that are the causes of business cycles because their actions create disruptive dislocations and arrive in huge waves. In fact, Schumpeter believed that entrepreneurs deserve the credit for the industrial revolution.
Schumpeter introduced the phrase “creative destruction,” stating that the entrepreneur does not just invent things, but also exploits in novel ways what has already been invented. He identified five types of entrepreneurial activity: new product innovation or the introduction of a new service, new process innovation or new methods of production, market innovation or the opening of new markets, input or resources innovation, and organizational innovation, which is the complete restructuring of an entire industry or the breaking up of a monopoly.