Jan 21, 2023 5 min read

Notes on The Origin and Evolution of New Businesses (Amar V. Bhide)

The Origin and Evolution of New Businesses complements and counterbalances the advice on entrepreneurship from people like Paul Graham and other VCs. The book was written in 2000 and summarizes what Bhide learned from interviewing the founders of 100 of the fastest growing companies from 1988. Despite its age the lessons are valid and relevant today. Below are my notes. Keep in mind that all of these businesses had significant profits, these weren't laundromats, gyms, etc.

Ideas and Starting Up

Most founders didn't have an original idea or deep industry experience. Many of them adapted or copied something from a prior job.
Almost all of the businesses were bootstrapped. Only about ~5% took VC money. $10,000 was a typical amount of initial capital (about $25k in 2022 dollars).
Most businesses were cash flow positive within a few months of starting up.
Businesses tended to be started in niche areas with lots of uncertainty around future profits. This allowed them to avoid competing against well capitalized rivals and gave them the potential to scale up if they found product-market fit (he doesn't use this term, but that's the basic idea).
Intangible qualities of the founder mattered a lot: willingness to work long, hard hours, creativity in solving unanticipated problems, salesmanship, etc.
Most founders did very little market research and took only a few months to go from idea to starting the business. Because they were risking a relatively small amount of money they had low opportunity costs.
About a third of founders were fired from their previous job. Many others started their business on the side.
Often businesses had initially high profit margins that shrunk as competitors entered or the market matured. Adapting to these lowered margins was crucial for success.

Difficulty Being Taken Seriously

Startups learned to imitate larger companies to give the perception that they were better capitalized and more stable than they actually were: saying "we" instead of "I", hiring an answering service so that someone always answered the phone, starting model numbers at some high number instead of 1, etc.
Established companies would often not work with startups due to their perceived (and actual) risk. In these cases it took luck and persistence to find initial customers or suppliers.

Who Starts Businesses

Successful entrepreneurs' backgrounds follow an inverse U-curve. Neither extremely poor or extremely wealthy people are likely to start a promising business. For the very poor this is probably because they don't have the capital or knowledge to start a business that can grow rapidly and for the very wealthy this is probably because the niche opportunities that grow into successful businesses look too unpromising at the start.
In line with the previous point, Bhide points out that entrepreneurs who had an initial success tend to start a more ambitious business if they attempt another startup.
81% of the entrepreneurs Bhide interviewed had college degrees and 10% had MBAs. Of the larger group that Bhide drew his 100 founders from only 5% came from poor backgrounds (self-reported).
He hypothesizes that entrepreneurs have more tolerance for ambiguity and higher-self confidence than the general population.
Propensity to risk-taking does not seem to matter much. Most entrepreneurs are risking relatively little in starting their businesses.

Contrasts with Big Corporations

Big companies are slow, take their time, and reduce uncertainty. This means they are less likely to waste time and large amounts of money on unpromising areas, but they also miss new areas that are hard to analyze.
He has a wild timeline for the development of Gillette's Mach3 razor claiming that R&D began in 1985 and the product wasn't available until 1998.

VC Backed Startups

This is probably the most dated part of the book since the VC industry has changed so much in the past twenty years.
VC backed startups "have made significantly greater contributions than boot-strapped ventures to certain high-technology fields such as semiconductors and genetic engineering".
Startups that take VC money are significantly better capitalized than bootstrapped startups. Average starting capital was <$30,000 for the bootstrapped group and >$2m for the VC backed group.
The bootstrapped startups, though highly profitable, are significantly less profitable than successful VC backed firms of the same age.
Interestingly, he claims that VC backed startups have a harder time pivoting than do bootstrapped businesses. This is interesting if it's true because VCs often proclaim the virtues of pivots.
Interesting claim about VC: "VC returns in the past two decades seem to have followed a boom-to-bust pattern, suggesting capital 'shortages' have been cyclical and temporary rather than chronic."

Revolutionary Ventures

"Founders of revolutionary ventures require considerable personal wealth, contacts, and credibility to fund their ventures. Revolutionary ventures require substantial capital to develop and refine new technologies; to acquire dedicated assets or infrastructure (radical innovations often preclude the use of standardized or off-the-shelf inputs); to educate consumers and distributors about the benefits of the offering; and to cover losses until the venture attains critical mass."
Revolutionary ventures are much harder than merely successful businesses and require much rarer personal talents.

Differences Between Startup and Corporation

Startups tend to get their profit from a few (often transient) projects. Established companies tend to get their profits from a broad portfolio of projects.
If firms don't grow they tend to die.
Most startups don't have a good base on which to grow from. They are too undifferentiated from their competitors. They will be unable to grow (and probably to survive) without broadening their offerings.

Transitioning from Startup to Long-Lived Corporation

Requires the entrepreneur to shift from an opportunistic approach to a strategic one.
Entrepreneurs typically lack the capital to rapidly expand into complementary areas and lack the knowledge to do so. To get around this entrepreneurs must develop a strategy.
"The risks of seemingly arbitrary choices are, to a degree, mitigated by the gradual evolution of a firm's strategy. Although entrepreneurs... have limited experience when they start, over time they gain a deep, almost intuitive understanding of the businesses and markets, which can compensate for the sketchiness of their formal research and analysis."
Firms cannot copy the culture of established businesses. There are too-many intangible factors that don't transfer between firms for this to work. Instead they must tailor their culture to their circumstances.

Personal Qualities

While entrepreneurs don't need to be risk-takers to succeed, the highest levels of success usually require risk-taking. Many successful entrepreneurs are unwilling to make this leap because they now have something to lose.
"Few entrepreneurs who have the qualities required to start a promising business also possess the qualities required to build a large corporation. The qualities are not only different, they may also be in conflict."

More Observations on Large Corporations

Though large corporations often miss the next wave because it looks too small at the start, they very rarely fail to survive because of adverse innovations. Unless they are obstinate, their diversified assets afford them the time and money to catch up.
The optimal level of fraud is not zero. High trust means that deals are easier to do but also that some people will get swindled. Overall this means more good businesses are created even if some are fraudulent. At the same time, too much fraud means no one trusts anyone and it is hard for new businesses to succeed.
Rapid scaling may make it harder for entrepreneurs to build long-lived firms. They don't have time to learn the skills they need to succeed at the next stage.